What rate of post-petition interest must a solvent debtor pay creditors whose claims are designated as unimpaired pursuant to Section 1124(1) of the Bankruptcy Code?  The answer can make a huge difference. According to a recent Ninth Circuit Court of Appeals opinion, the courts should apply the contract or the statutory default rate (if the contract is silent) subject to equitable considerations, and not the federal judgment interest rate. In the subject case, it could mean an additional $200 million available to the creditors.
The 2-1 opinion, In re PG&E Corp. was published on August 29, 2022 and has generated significant interest as it is the first opinion on the matter issued by a Circuit Court of Appeals (with conflicts amongst bankruptcy courts). The reorganized debtors filed a petition seeking a rehearing of the case en banc, but on October 5, 2022 an order denying such rehearing was entered. Therefore, at least for now in the Ninth Circuit, the question has been settled: in a solvent debtor case, creditors must receive post-petition interest at the contract or statutory default rate to be considered unimpaired (subject to compelling equitable considerations).
Post-petition Interest Generally
As a general rule, creditors do not receive post-petition interest in bankruptcy as the Bankruptcy Code disallows claims for “unmatured interest” that exist as of the petition date. There are certain exceptions to this rule. For example, a secured creditor whose collateral is worth more than the monetary value of its claim is entitled to accrue post-petition interest from the date of the filing of the bankruptcy petition until the effective date of the plan of reorganization. Another statutory provision provides that, to the extent there is cash leftover after paying all claims in the case, a trustee must pay creditors post-petition interest at the “legal rate” of interest before any amounts are returned to the debtor. In addition to statutory exceptions, there is the common law “solvent debtor exception” which is an equitable, judge-made rule that requires a solvent debtor to pay post-petition interest on a claim before paying any surplus amount to the debtor. Despite widespread acceptance of the rule, courts have disagreed about the rate of post-petition interest to be paid, as well as what constitutes “impairment” under the Bankruptcy Code.
Background of the PG&E Case and Plan
California power company Pacific Gas & Electric Co. and affiliated debtors (“PG&E”) filed for chapter 11 bankruptcy “in response to catastrophic wildfires that occurred in Northern California during the preceding years. Following the fires, PG&E faced tens of billions of dollars in potential liabilities to fire victims, in addition to the tens of billions of dollars the company owed pursuant to its outstanding contractual commitments.” However, PG&E was solvent as of the date of filing, with scheduled assets exceeding known liabilities by almost $20 billion.
PG&E filed a plan of reorganization (the “Plan”) that proposed to pay the non-wildfire claimants 100% of the face value of their claims plus post-petition interest through the date of the distribution at the then applicable federal judgment rate of 2.59%. This rate of interest was much lower than the amount that was either (i) the rate of interest bargained for in many creditors’ contracts, or (ii) the 10% default rate that is the statutory rate in California. Still, PG&E asserted that the non-wildfire creditors were “unimpaired” and must be deemed to have accepted the Plan without the right to vote.
Section 1124 defines impairment. To be unimpaired a plan must leave “unaltered the legal, equitable, and contractual rights to which such claim or interest entitles the holder of such claim or interest[.]” The non-wildfire claimants argued that they were entitled to post-petition interest because PG&E was solvent, and that they must receive such interest at the contractual or default state law rates to be considered unimpaired – to be paid a lesser rate of interest would render them impaired. However, the bankruptcy court disagreed and found that the Ninth Circuit had offered prior precedent on post-petition interest in the case In re Caredelucci. The bankruptcy court interpreted Cardelucci as holding that all unsecured creditors of a solvent debtor were entitled only to post-petition interest at the federal judgment rate, leaving them unimpaired because they were made whole. The bankruptcy court alternatively held that, if Cardelucci was not controlling, then the Bankruptcy Code itself required a uniform rate of interest at the federal judgment rate. The district court affirmed.
The panel was asked to determine the appropriate rate of post-petition interest that a solvent debtor must pay creditors whose claims are designated as unimpaired.
The majority noted disagreement amongst the lower courts on the issue. For example, a bankruptcy court in the Southern District of Texas held that unimpaired creditors must receive post-petition interest at the contract rate, while a bankruptcy court in Delaware had held that unimpaired creditors are entitled to interest “under equitable principles” at a rate “the Court deems appropriate.” Quite recently, another Delaware bankruptcy judge found flatly that creditors need only receive interest at the federal judgment rate to be considered unimpaired.
The majority reviewed the history of the solvent debtor exception, which is rooted in eighteenth-century English common law, and its application under the Bankruptcy Act of 1898, the statutory predecessor to the present Bankruptcy Code. This equitable exception prevents a solvent debtor from pocketing interest payments that it otherwise would have paid the creditor outside of bankruptcy. The rule mirrors the absolute priority rule, which requires payment in full to creditors before the debtor may retain property.
With this history in mind, the majority examined what a solvent debtor would have to pay in interest to leave a creditor unimpaired under Section 1124(1). Notably, while there is no Bankruptcy Code provision governing what rate of post-petition interest an unimpaired creditor should receive, the Code does provide the rate of post-petition interest an impaired creditor must receive. One requirement for plan confirmation is that an impaired class of creditors that votes against a plan must receive at least as much under the plan as such class of creditors would receive in a chapter 7 liquidation. This is the “best interests of the creditors” test (“Best Interests Test”) and is specifically applicable to impaired classes of claims. Applying the Best Interests Test leads to Section 726, which establishes the priority of distributions in a chapter 7 case. As set forth above, Section 726(a)(5), requires post-petition interest at the “legal rate” on allowed claims before the Debtor can receive a surplus. The panel agreed with the bankruptcy court and district court that Cardelucci established that the “legal rate” under Section 726(a)(5) means the federal judgment rate.
However, the majority opinion easily distinguished Cardelucci as addressing impaired creditors. Importantly, impaired creditors are ensured that, even if they vote against a plan, (i) they will receive at least the federal judgment rate of post-petition interest in a solvent debtor case and (ii) the bankruptcy court must find the plan is “fair and equitable” with respect to that class. The majority noted that “[s]ome courts have held a solvent debtor may be required to pay contractual or default interest, over and above the required federal judgment rate, to objecting, impaired creditors in order to satisfy this ‘fair and equitable’ requirement and secure court approval of a reorganization plan.”  However, unimpaired creditors have no such rights. PG&E’s Plan offered allegedly unimpaired creditors the same rate of post-petition interest that impaired creditors were entitled to, without the statutory protections afforded impaired creditors, and therefore improperly classified the non-wildfire creditors.
The majority also addressed PG&E’s argument that the Bankruptcy Code itself dictated that the federal judgment rate must apply, and therefore, the non-wildfire claimants were not impaired. PG&E’s argument would require finding that the solvent debtor exception was abrogated by the Bankruptcy Code. Unfortunately for PG&E, the majority found that through (i) a lack of express statutory language ending the exception, (ii) the legislative history of Section 1124, (iii) the Bankruptcy Code’s text (with Section 1124(1) preserving, among others, “equitable” rights), and (iv) the Bankruptcy Code’s structure (i.e., providing statutory protections to impaired creditors and being silent as to unimpaired creditors because they could rely on the common law exception), the solvent debtor exception was preserved.
The majority concluded that PG&E’s designation of non-wildfire creditors as unimpaired was improper because they were receiving the same rate of interest as non-accepting impaired creditors, with less statutory rights. Therefore, a solvent debtor must generally pay the contract or state default rate of post-petition interest to creditors for such creditors to be unimpaired. However, as the solvent debtor exception is an equitable rule, the actual rate to be received remains subject to equitable considerations. The court emphasized it was not granting bankruptcy judges “free-floating discretion” and equitable considerations must be compelling, e.g., where payment of contractual or default interest could impair the ability of other similarly situated creditors to be paid in full.
The Ninth Circuit remanded the case to the bankruptcy court to weigh the equities and determine the rate of interest to which plaintiffs are entitled (though it stated no signs of compelling equitable circumstances appeared in this case).
With the Ninth Circuit denying rehearing en banc, the matter is settled in the Ninth Circuit for now (barring the case being taken up by the U.S. Supreme Court). Interestingly, there is a pending Fifth Circuit appeal of a bankruptcy court decision, in line with the PG&E majority decision, enforcing contractual make-whole provisions and post-petition interest at the contract rate in a solvent debtor case for creditors who were deemed unimpaired under a plan (as opposed to the federal judgement rate, which would make them impaired). And there is very recent opposing authority in Delaware that finds creditors of a solvent debtor remain unimpaired if they receive interest at the federal judgement rate. Therefore, the issue remains open in many jurisdictions and will be closely monitored going forward, especially considering the impact such disparate rates can have on creditors’ recoveries in large, solvent debtor cases.
 All references to a “Section” will be to those under title 11 of the U.S. Code (the “Bankruptcy Code”) unless noted otherwise.
 46 F.4th 1047 (9th Cir. 2022).
 11 U.S.C. §502(b)(2).
 11 U.S.C. § 506(b).
 11 U.S.C. § 726(b)(5).
 PG&E at 1051.
 See 28 U.S.C. § 1961(a). The post-judgment interest rate for judgments entered from September 26 through October 2, 2022 is 4.08%. https://www.casb.uscourts.gov/post-judgment-interest-rates (accessed October 5, 2022).
 Cal. Civ. Code § 3289(b).
 11 U.S.C. § 1124(1).
 285 F.3d 1231 (9th Cir. 2002).
 In re Ultra Petroleum Corp., 624 B.R. 178, 203–04 (Bankr. S.D. Tex. 2020).
 In re Energy Future Holdings Corp., 540 B.R. 109, 124 (Bankr. D. Del. 2015).
 In re The Hertz Corp., 637 B.R. 781, 800–01 (Bankr. D. Del. 2021).
 11 U.S.C. § 1129(a)(7)(A)(ii).
 U.S.C. § 1129(b)(1).
 PG&E at 1056 (emphasis added), offering In re Dow Corning Corp., 456 F.3d 668, 680 (6th Cir. 2006) and In re Mullins, 633 B.R. 1, 20 (Bankr. D. Mass 2021) as support for such proposition.
 An appeal of the decision of In re Ultra Petroleum Corp., 624 B.R. 178, 203–04 (Bankr. S.D. Tex. 2020); oral argument was held on October 4, 2021 and matter remains under advisement.
 In re The Hertz Corp., 637 B.R. 781, 800–01 (Bankr. D. Del. 2021).