In Czyzewski v. Jevic Holding Corp., 137 S. Ct. 973 (2016), the Supreme Court ruled that the absolute priority rule applies to the “structured dismissal” of a Chapter 11 case.
When a Chapter 11 case is filed, there are three basic possible outcomes: 1) the bankruptcy court confirms a plan of reorganization; 2) the case is converted from Chapter 11 to Chapter 7; or 3) the case is dismissed.
11 U.S.C. § 349(b) provides that “Unless the court, for cause, orders otherwise…” the dismissal of a case re-vests estate property in the debtor and attempts to return the debtor to the pre‑petition financial status quo.
Parties in Chapter 11 have made creative use of the “Unless…otherwise” language in Section 349(b) and bankruptcy courts have approved the “structured dismissal” of Chapter 11 cases, which functions as a “hybrid dismissal and confirmation order…that…typically dismisses the case while, among other things, approving certain distributions to creditors, granting certain third-party releases, enjoining certain conduct by creditors, and not necessarily vacating orders or unwinding transactions undertaken during the case.” American Bankruptcy Institute to Study the Reform of Chapter 11, 2012-2014 Final Report and Recommendations 270 (2014).
11 U.S.C. §§ 725 and 726 provide a hierarchy of distributions in a bankruptcy case. And in the plan confirmation context, where there is a nonconsenting objecting class, a higher class of claims must be paid in full before a lower class of claims receives anything on account of its claims or interests. This is generally known as the “absolute priority” rule. But the structured dismissal in Jevic included a distribution that skipped a higher priority class of wage claimants and provided for general unsecured creditors. The class of priority wage claimants objected to dismissal.
Jevic held that 11 U.S.C. § 349(b) does not provide a basis for the dismissal of a Chapter 11 case that includes a settlement that violates the absolute priority rule, unless the adversely affected class consents.
For a court to approve a distribution in a Chapter 11 structured dismissal that violates the absolute priority rule, the affected class must agree.