Cite as: Keith M. Lundin, Lundin On Chapter 13, § 78.3, at ¶ ____, LundinOnChapter13.com (last visited __________).
The straightforward calculations above1 become a bit more complicated when adequate protection payments must be accounted for. In districts that delay confirmation in Chapter 13 cases until after the claims bar date,2 it is not uncommon for debtors to be required to make adequate protection payments during the months between the petition and confirmation.3
The theory of adequate protection is that the debtor must compensate the lienholder for the loss in value—depreciation—that is caused by the debtor’s use of the collateral before confirmation. Applying this theory, it would make sense that adequate protection payments in Chapter 13 cases should mirror the depreciation in collateral between the date adequate protection is demanded4 and the effective date of a confirmed plan.5
But determining the anticipated amount of depreciation is at best an inexact science,6 and valuing every item of collateral in every Chapter 13 case is not practical or cost effective. So, adequate protection payments in most Chapter 13 cases are an estimate, sometimes based on a predetermined formula such as 1 percent or 1.25 percent of the value of the collateral per month.7 And even a depreciation formula is an estimate on top of an estimate—the “value” that is multiplied by the monthly percentage is itself typically based on an NADA Used Car Guide or some similar shorthand for determining value.8
When we get to confirmation and there have been adequate protection payments, what is the remaining value of the collateral that must be paid in full with present value (interest)? And how do we account for the adequate protection payments that were made prior to confirmation? These questions should have simple answers. They don’t.
Take the example above9—a $10,000 claim and a car “valued” at the petition at $7,000. We start with the understanding that this $7,000 value may be controversial. Some courts would use a replacement value standard and others would use a foreclosure or surrender value standard to determine value for adequate protection purposes at an early stage in the Chapter 13 case.10 Add the assumption that confirmation was delayed 10 months to let the claims bar date pass and that the rule in the district is, in the absence of agreement otherwise, adequate protection for the depreciation of a car is 1 percent of the value per month.
When this hypothetical arrives at confirmation, the debtor has paid 10 monthly adequate protection payments of $70 each (1 percent of $7,000) or $700 to the lienholder. What does the debtor have to pay to accomplish confirmation under § 1325(a)(5)?
Here is where valuation timing and methodology can make a big difference. Some courts revalue collateral at confirmation to determine what must be present valued for § 1325(a)(5) purposes.11 Other courts use the earlier value calculated for adequate protection purposes—here, $7,000—reduced by the estimated depreciation ($700), leaving value for confirmation purposes of $6,300.
Perhaps more importantly, among the courts that use two valuations, some use different valuation standards for adequate protection than for confirmation purposes: adequate protection value is based on a foreclosure or surrender standard; confirmation value is measured by replacement value after the Supreme Court’s decision in Associates Commercial Corp. v. Rash.12 The absence of uniformity with respect to timing and methodology for valuation produces uncertainty about the value number that should go into the § 1325(a)(5) calculation when confirmation has been delayed and adequate protection payments were required.
Taking the simplest alternative first, if the adequate protection valuation of $7,000 is mathematically reduced to $6,300 at confirmation—based on 1 percent per month estimated depreciation—then the value at confirmation is $6,300, the interest rate was 10 percent (.83 percent per month), the length of the plan is 36 months (for this example) and the monthly payment generated by a financial calculator as $203.28. If the debtor made all 10 of the $70 adequate protection payments, the lienholder keeps those payments and is theoretically whole, with a combination of $700 in adequate protection payments and $6,300 with present value (interest) over the life of the plan.
What if the debtor made only five adequate protection payments? At confirmation, if the car is valued at $6,300 using a mathematical formula, then the lienholder has lost $350 of value.
This could be characterized as an “adequate protection failure.” The creditor might argue that the value of its collateral for confirmation purposes should be $6,650, not $6,300, to account for the missing $350. There is no good statutory foundation for this argument after Rash: replacement value at confirmation is not linked to depreciation or adequate protection during the Chapter 13 case.
The creditor might demand that the $350 shortfall in adequate protection payments be made up by the debtor—for example, as a condition of confirmation. There are no reported cases that support this outcome either.
The lienholder might demand an administrative claim or a “super priority” claim for failed adequate protection.13 This route has been tried and the reported decisions rate this a long shot for the creditor.14 The creditor might ask for relief from the stay because of failed adequate protection—a remedy more likely of success when the request is made immediate to a missed adequate protection payment.15
In a district that revalues collateral for confirmation purposes, there are several possibilities that further complicate accounting for adequate protection payments. In the example, at confirmation the car might be revalued at $6,300, in which case the estimate of depreciation for adequate protection purposes was accurate. If the debtor made all 10 of the $70 adequate protection payments, the creditor is whole at confirmation, with a present value of $6,300, 10 percent interest and 36 monthly payments of $203.28. This is the same outcome as if a mathematical formula were used to reduce the value of the car based on estimated depreciation at the time of the adequate protection demand.
If the car is revalued at confirmation at $6,000, the adequate protection estimate turns out to be low. Even if the debtor made all 10 adequate protection payments, there is a gap of $300 between the $6,000 value of the car at confirmation and the $1,000 of value lost before confirmation. This is economically similar to the example above when the debtor failed to make all the adequate protection payments—from the lienholder’s perspective the combination of adequate protection payments actually made and present value at confirmation leaves $300 of lost value that could be characterized as failed adequate protection. The lienholder here has the same not-so-attractive options for recovering this loss of value.
What if the car values at $6,500 at confirmation? Notice that the shoe then fits the other foot. If the debtor made all adequate protection payments ($700), the lienholder has been overcompensated by $200 for lost value prior to confirmation. On these facts, United Savings Ass’n of Texas v. Timbers of Inwood Forest Associates, Ltd.16 probably requires that the lienholder’s allowed secured claim be reduced to $6,300 because the $200 of adequate protection overpayment must be credited against the lienholder’s allowed secured claim at confirmation.17
The overall picture here is not great from the standpoint of the lienholder. If the adequate protection guess early in the Chapter 13 case is accurate and if the debtor makes all adequate protection payments, the lienholder is okay at confirmation: the value of the collateral for present value purposes will be the depreciated value after deducting adequate protection payments and all is well with the world. If the valuation game puts the creditor ahead at confirmation—if adequate protection payments subtracted from the original value of the collateral give a number below the value of the collateral at confirmation—the lienholder’s allowed secured claim for present value purposes is reduced, but arguably the creditor is made whole by a combination of adequate protection payments and present value payments after confirmation. All the other scenarios bring the lienholder to confirmation at some shortfall or disadvantage. Different valuation standards, missed adequate protection payments or just imperfect estimations of either value or depreciation—any of these more or less forgivable events produce a gap between the value that was supposed to be protected by adequate protection and the present value that will be paid to accomplish confirmation.
The remedies listed above are all either unlikely to work or expensive for the lienholder to litigate. This situation puts an enormous premium on playing the game well from the creditor’s perspective: negotiating for a maximum adequate protection payment based on the highest possible collateral value at the time of demand for adequate protection, followed by persistence at confirmation to see that value doesn’t slip away based on a different valuation standard and the passage of time.
Or, then again, there is the systemic solution that is elegant for its simplicity: Don’t delay confirmation until after the claims bar date and all of this adequate protection nonsense evaporates.18
For the skeptics reading this and shaking their heads that we can’t be 25 years into the Bankruptcy Code and still be this confused with respect to secured claims and adequate protection in Chapter 13 cases, take a reality check and read In re Stembridge.19 In an ordinary Chapter 13 case, in a district that reaches confirmation after the claims bar date, a local general order provides, at confirmation: “an undersecured creditor must receive money or property having a value as of the effective date of the plan that, when added to any adequate protection payments received by the creditor, equals the greater of the Adequate Protection Value or the Replacement Value.”20
The adequate protection value in this formula is “the N.A.D.A. Official Used Car Guide Trade Value.”21 As explained by the bankruptcy court in Stembridge, this trade value approximates “what a lender might recover from a vehicle through foreclosure.”22 Also by local general order, within 15 days of a Chapter 13 petition, the debtor must seek authorization to make preconfirmation disbursements to a lienholder under guidelines promulgated by the standing Chapter 13 trustee equal to “1.25% of collateral value” per month. At confirmation, absent contrary evidence, replacement value is determined “starting from the retail value provided in the NADA Official Used Car Guide. . . . [T]he NADA Value may be averaged with the contemporaneous Kelley Blue Book Private Party Value to produce a replacement value.”23 At confirmation, the lienholder is entitled to the greater of the replacement value at the time of confirmation or the adequate protection value at the earlier date required by the local general order. When the adequate protection value is greater, the lienholder is entitled to the adequate protection value less adequate protection payments received during the case. Simple, huh?
In Stembridge, the trade value for the pickup was $12,825 on the date adequate protection payments were required under the local general order. At confirmation, the replacement value was $12,607.50. During the year between filing and confirmation, the debtor made adequate protection payments totaling $1,311.75. The court held that § 1325(a)(5)(B) required the debtor to pay the present value of $12,825 minus $1,311.75 or $11,513.25 to accomplish confirmation. The court noted that the trade value of the pickup truck fell from $12,825 at the time adequate protection payments commenced to $11,075 at the confirmation hearing—a loss in value of $1,750. Since the debtor paid only $1,311.75 as adequate protection, arguably the lienholder was shortchanged $439.
But this shortchanging did not bother the bankruptcy court because, for purposes of confirmation, the shortfall in adequate protection was buried in the new valuation:
Although the Trade Value of the Truck has dropped more than the adequate protection paid to Chase, the amount the court looks to in determining the value of Chase’s collateral under the Plan is the Replacement Value of the Truck, $12,607.50. Since this value is greater than the total of Chase’s claim, $11,513.25 (which includes the deficiency in adequate protection payments), Chase would be fully secured following confirmation.24
Stembridge is not an aberration. The mathematics of accounting for adequate protection payments in a valuation environment that shifts between standards over time is almost beyond the competence of ordinary mortals. It is no wonder that so few opinions like Stembridge actually get reported.
1 See § 114.1 [ Calculating Payments to Secured Claim Holders ] § 78.2 Calculating Payments to Secured Claim Holders.
2 See § 216.1 [ Timing of Hearing on Confirmation ] § 115.1 Timing of Hearing on Confirmation before BAPCPA.
3 See § 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation.
4 There is some controversy whether adequate protection payments should be measured from the petition or from the date of demand. See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation and 107.1 [ As of What Date Is Value Determined? ] § 76.3 As of What Date Is Value Determined?.
5 See § 111.1 [ “Value, As of the Effective Date of the Plan” Means Interest ] § 77.1 “Value, As of the Effective Date of the Plan” Means Interest.
6 See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation and 110.1 [ Valuation after Rash ] § 76.6 Valuation after Rash.
7 See § 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation. See, e.g., In re Stembridge, 287 B.R. 658 (Bankr. N.D. Tex. 2002) (Under guidelines promulgated by the standing Chapter 13 trustee, adequate protection of a car lender is 1.25% of the collateral value per month.).
9 See § 114.1 [ Calculating Payments to Secured Claim Holders ] § 78.2 Calculating Payments to Secured Claim Holders.
10 See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation and 110.1 [ Valuation after Rash ] § 76.6 Valuation after Rash.
11 See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation and 107.1 [ As of What Date Is Value Determined? ] § 76.3 As of What Date Is Value Determined?.
12 520 U.S. 953, 117 S. Ct. 1879, 138 L. Ed. 2d 148 (1997). See § 110.1 [ Valuation after Rash ] § 76.6 Valuation after Rash.
13 See § 297.1 [ Failed Adequate Protection ] § 136.12 Failed Adequate Protection before BAPCPA.
14 The statutory requirements for the “super priority” claim for failed adequate protection in 11 U.S.C. § 507(b) are difficult to prove and especially difficult to apply to claims secured by personal property in a Chapter 13 case. See § 297.1 [ Failed Adequate Protection ] § 136.12 Failed Adequate Protection before BAPCPA.
15 See § 81.1 [ Lack of Adequate Protection ] § 64.1 Lack of Adequate Protection.
16 484 U.S. 365, 108 S. Ct. 626, 98 L. Ed. 2d 740 (1988).
17 See § 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation.
18 See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation and 216.1 [ Timing of Hearing on Confirmation ] § 115.1 Timing of Hearing on Confirmation before BAPCPA.
19 287 B.R. 658 (Bankr. N.D. Tex. 2002).
20 287 B.R. at 663.
21 287 B.R. at 663.
22 287 B.R. at 663.
23 287 B.R. at 663.
24 287 B.R. at 667.