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The Bankruptcy StrategistLJN NewslettersNewsSections

Strategies for Lenders

By Lynn M. LoPucki and Christopher R. Mirick

It has become conventional wisdom that bankruptcy — even Chapter 11 — is now largely a process controlled by secured lenders. See, eg, Skeel DA Jr.: Creditors' Ball: The “New” New Corporate Governance in Chapter 11. 152 U. Pa. L. Rev. 917 (2003). Whatever the merits of this view, the undersecured lender is still in an unenviable position as a result of the Supreme Court's holding in Timbers that undersecured creditors who are stayed from foreclosing on their collateral during bankruptcy are not entitled to accrue or collect interest on their claims during the bankruptcy case or otherwise be compensated for their loss. United Sav. Assn. of Texas v. Timbers of Inwood Forest Assocs. (In re Timbers of Inwood Forest Assocs.), 484 U.S. 365, 626 (1988). In addition, Bankruptcy Code ' 502(b)(2) bars claims for “unmatured” (postpetition) interest.

We have found two successful strategies by which lenders can avoid both these limitations. Borrowers are unlikely to resist the use of these strategies because neither has any significant pre-bankruptcy effect on the borrower — or the lender. The form of the loan will be different, but the substance of the loan will be the same. The strategies are 1) to segment the loan, and 2) to cast the loan in the form of an interest rate swap. The use of either strategy will enable the lender to accrue and collect interest on all or a substantial part of its loan during the period the debtor is in bankruptcy.

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