One person’s successful confirmation of a plan of reorganization is another person’s bad faith abuse of the rules. Last month in In re The Village at Lakeridge, LLC, the Ninth Circuit Court of Appeals waded into just such an area: the intersection of claims buying, insider status, and plan voting. Specifically, it addressed whether a non-insider creditor who purchases a claim from an insider is considered an insider for voting purposes. While it is well-settled that an insider’s vote is not counted for confirmation purposes under § 1129(a)(10), it was an open question, at least in the Ninth Circuit, whether insider status follows the insider claim’s in the hands of a non-insider purchaser. This is an important confirmation issue, especially in close cases where every vote matters.

Facts of the Case

The Debtor had two primary creditors: U.S. Bank, which held a $10 million fully-secured claim, and MBP Equity Partners 1, LLC (the Debtor’s sole member), which held a $2.76 million unsecured claim. MBP’s board decided to sell its claim shortly after the Debtor filed its disclosure statement and plan of reorganization. One of MBP’s board members, Katie Bartlett, approached a personal friend, Dr. Robert Rabkin. Ultimately, she negotiated a sale of MBP’s $2.76 million claim to Dr. Rabkin for a mere $5,000.00. U.S. Bank challenged the sale on a number of grounds, including bad faith.

On that issue, Ms. Bartlett testified that MBP sold the claim for two reasons: (1) the insider claim was useless to MBP for voting purposes and (2) a sale might be tax-advantageous. And Dr. Rabkin testified that he had little knowledge of the Debtor or MBP but had a close business and personal relationship with Ms. Bartlett. He also testified that he purchased the claim as a business investment. U.S. Bank offered at the deposition to purchase the claim from Dr. Rabkin for $50,000.00. It then increased its offer to $60,000 when Dr. Rabkin asked for time after his deposition to consider. Rabkin never responded to the offer.

Lower Court Rulings

Based on the testimony, U.S. Bank moved to designate Dr. Rabkin’s claim and disallow it for plan voting purposes. First, U.S. Bank characterized Dr. Rabkin as either a statutory or a non-statutory insider on account of the purchase. Second, it argued that MBP sold the claim to Dr. Rabkin in bad faith. Although the Bankruptcy Court disagreed with U.S. Bank on those 2 points, it did find that Dr. Rabkin became a statutory insider. The theory: When a statutory insider (MPB) sells or assigns a claim to a non-insider (Dr. Rabkin), the non-insider becomes a statutory insider as a matter of law.

On direct appeal, the Ninth Circuit Bankruptcy Appellate Panel agreed that (i) Dr. Rabkin was not a non-statutory insider and (ii) that MBP had not assigned the claim in bad faith. However, it reversed Bankruptcy Court’s holding that the statutory insider status traveled to Dr. Rabkin via the claim assignment.

Ninth Circuit Ruling

The Ninth Circuit, with one judge dissenting, agreed with the BAP.

First, it rightly emphasized the distinction under the Code between the status of a claim and status of a claimant. Section 101(31) defines an “insider” as a person with a particular relationship to a debtor. Section 1129(a)(10) also excludes, for purposes of confirmation, “any acceptance of the plan by an insider.” Therefore, the Ninth Circuit reasoned that if Congress intended courts to look to the claim, rather than the individual, in determining insider status, then one would expect to find references to “the holder of an insider claim” in § 1129 rather than references to the insider, itself, without a reference to the claim. Further, it noted that focusing on the claim rather than the person holding the claim could run counter to cases decided in the opposite context (i.e., when an insider purchases a claim from an non-insider). At least two bankruptcy courts have held that insider status persists, regardless of the category of claim. Seee.g.In re Applegate Prop., Ltd. (W.D. Tex. 1991) and In re Holly Knoll P’ship (E.D. Pa. 1994).

Second, the Ninth Circuit rejected U.S. Bank’s contention that the Bankruptcy Court’s ruling would prejudice secured creditors (like U.S. Bank). The Court rattled-off multiple confirmation requirements designed to protect these creditors: (1) the plan and plan proponent must comply with the Bankruptcy Code; (2) the plan must be proposed in good faith; (3) the plan proponent must disclose the identity of all insiders and potential insiders; (4) at least one class of impaired claims must accept the plan (excluding insider votes); (5) the plan must be “fair and equitable” under § 1129(b)(2); and (6) under § 1126(e), the court “may designate any entity whose acceptance or rejection of [a] plan was not in good faith, or was not solicited or procured in good faith.”

The Ninth Circuit also reviewed U.S. Bank’s cross-appeal on the Bankruptcy Court’s holding that Dr. Rabkin was not a non-statutory insider. After stating the standard for a non-statutory insider—(1) the closeness of its relationship with the debtor is comparable to that of the enumerated insider classifications in § § 101(31) and (2) the relevant transaction is negotiated at less than arm’s length—the Ninth Circuit affirmed under a clear error standard.


As debtors’ attorneys, we can’t help but agree with the outcome. (For a creditor attorney’s contrary take, see King & Spalding’s post by Sarah Borders here). A claimant is either an insider or it’s not. The Ninth Circuit correctly rejected the bankruptcy court’s attempt to make new law in providing for transfer of the insider status along with the claim. The Code simply doesn’t provide for “springing insiders.”

If a creditor is neither a statutory insider nor found to be a non-statutory insider, the inquiry reduces to a “bad faith inquiry.”  We don’t see bad faith even if Dr. Rabkin purchased the claim in an attempt to confirm the plan. We don’t view purchasing a claim to assure confirmation of a plan as bad faith, per se. Indeed, creditors purchase claims in an attempt to block confirmation and would vigorously resist any allegation that such an action was bad faith per se.

While we do see this as a potential means by which to cram down a plan on a secured creditor, it’s difficult to imagine many cases where there is a willing purchaser with the ability to dominate or swing a class in favor of the proposed plan. Even if this strategy is followed, as the Ninth Circuit correctly pointed out, the dissenting secured creditor can take comfort in the fact that § 1129 and other provisions of the Bankruptcy Code provide numerous protections to the secured creditor, the most important of which is the requirement that the plan must be “fair and equitable” as to each impaired class of claims or interests. This includes for the secured creditor the right to receive at least the present value of its claim.

Indeed, we can’t help but speculate as to U.S. Bank’s motivations. It appears to us that they were seeking to force the debtor to liquidate or credit bid for the property at liquidation value and reap a profit on the resale. When this motivation to make a buck at the expense of the debtor is compared to that of the debtor in seeking to confirm a plan that would allow it to remain a going concern business, we can’t help but feel that the policies of encouraging reorganization and maintaining value underlying the Bankruptcy Code were upheld.