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Allen Matkins Legal Alert
January 18, 2017              

A recent Ninth Circuit decision overturned earlier case law allowing debtors to avoid paying default interest when a defaulted loan was "cured" through a confirmed plan of reorganization.

A Secured Lender Must Receive Default Interest Under a Chapter 11 Plan Purporting to Cure a Defaulted Loan in the Ninth Circuit

In Pacifica L 51 LLC v. New Investments, Inc. (In re New Investments Inc.), 840 F.3d 1137 (9th Cir. 2016), the Ninth Circuit Court of Appeals held that a secured lender must receive default interest when a debtor attempts to cure and reinstate a defaulted loan through the plan confirmation process. The New Investments decision overruled In re Entz-White Lumber & Supply, Inc., 850 F.2d 1338 (9th Cir. 1988), which allowed a defaulted loan to be cured through a confirmed chapter 11 plan without paying default interest.

The Facts and Procedural Background

The debtor in New Investments borrowed approximately $3 million secured by a hotel property. The loan provided for an 8% non-default and 13% default rate of interest. The debtor subsequently defaulted on the loan and then filed for bankruptcy to stay a foreclosure. During the bankruptcy, the debtor filed a plan of reorganization which proposed to sell the hotel property for substantially more than the outstanding loan, but did not provide for the payment of default interest upon repayment of the secured loan. The lender objected to confirmation of the plan, which the bankruptcy court overruled, and the lender appealed.

The Rationale of the Ninth Circuit

Entz-White was decided prior to the addition of Bankruptcy Code section 1123(d), which provides that "if it is proposed in a plan to cure a default the amount necessary to cure the default shall be determined in accordance with the underlying agreement and applicable non-bankruptcy law." In reversing the Bankruptcy Court's decision, the Ninth Circuit in New Investments determined the plain language of Section 1123(d) requires the payment of default interest to cure a defaulted loan under a plan and renders void Entz-White's prior rule to the contrary.

Impact on Secured Lenders

The New Investments decision now aligns the Ninth Circuit with other Circuits, which have strictly followed Section 1123(d) and require "cure-plans" to include payment of default interest then due and owing as part of any loan reinstatement. The New Investments decision should discourage debtors trying to file for bankruptcy in an attempt to avoid paying default interest on fully-secured loans by purportedly curing and reinstating a defaulted loan through a plan.

Huckins William William Huckins
Restructuring, Insolvency & Bankruptcy | Litigation | Financial Services
San Francisco
(415) 273-7426
(415) 837-1516 (fax)
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