Bankruptcy Appellate Panel Denies Employee Members of ESOP Claims Against Debtors
May 8, 2024 | Court Rulings, Valuations
Bennetti v. Oxford Restructuring Advisors LLC 2023
The Bankruptcy Court did not err in disallowing claims against debtors based on rights in an ESOP. The ESOP, an S corporation, was only obligated to provide ESOP members with the right to have distributions in cash. The ESOP members did not have a right to any payments from debtors and, therefore, “could not properly assert a proof of claim against them under 11 U.S.C.S. § 101(5)(A). 29 U.S.C.S. § 1132 did not give the ESOP participants like the employees a right to payment from debtors and did not transform them into unsecured creditors of debtors.” Therefore, the Bankruptcy Appellate Panel affirmed the judgment of the Bankruptcy Court.
Facts
Community Providers of Enrichment Services Inc. and subsidiaries provided behavioral health services in California and Arizona. Community Providers of Enrichment Services was an S corporation and established an ESOP for the benefit of its employees. A trustee and a committee, selected by Community Providers of Enrichment Services’ board of directors, operated the ESOP.
Section 13 of the ESOP plan provided to participants as directed by the committee and read in part that “(b) … [W]hile CPES is an S Corporation, the distribution of a Participant’s Capital Accumulation may be made entirely in cash without granting him the right to demand distribution in shares of CPES Stock.” Also noted was that “[p]lan termination could trigger distribution of participants’ benefits.”
The Chapter 11 case
In 2020, the three debtors filed Chapter 11 petitions. Later, the Bankruptcy Court approved the sale of the debtors’ assets. The liquidation plan resulted in 100% payout to unsecured creditors and a surplus for the ESOP.
The proofs of claim
The liquidating trustee filed two such claims. First, an unsecured claim in the amount of $255,150 for overpayment of distributions based on the 2018 valuation was alleged to be too high. Additionally, “[t]he ESOP, on behalf of the participants, also asserts a proof of claim for all amounts due to the ESOP related to its equity interests in the Debtor.”
The omnibus objections
The liquidating trustee argued that the ESOP participants’ claims do not support claims against the debtors because ESOP participants had rights only against the ESOP trust, and their claims were duplicative of the trustee’s claims and lacked sufficient information.
Participants argued the ESOP trust had an obligation to repurchase company stock distributed to the participants and had a right to force the debtors to repurchase the stock for cash even though the provision did not relate to an S corporation. Participants argued that the termination of the ESOP triggered the repurchase obligations. “They concluded that their rights under the Debtors’ repurchase obligations are ‘at parity’ with unsecured creditors under Arizona state law.”
The Bankruptcy Court determined: “(1) the Debtors are S corporations, which exempts them from the requirements of 26 U.S.C. § 409(h)(1), and (2) the ESOP Participants were never given debt instruments of any kind.” The participants had not shown that this was a direct obligation of the debtors. The Bankruptcy Court also found the claims to be duplicative of those the trustee made.
Discussion
The ESOP participants did not have any enforceable claim against the debtors. It was not enough that the creditor had a right to payment but one that must be enforceable against the debtors or their property. The participants argued that Community Providers of Enrichment Services owed them a repurchase or put under the Tax Code. This requirement was inapplicable in the case of an S corp., noting that, if an S corp. has over 100 shareholders, its status was terminated. Here, the ESOP plan provided that the debtors’ employees had no right to receive distributions in stock. The participants seemed to argue that distributions in cash was the legal equivalent of repurchase of shares while providing no support for this “novel idea.” The participants had a right to receive cash distributions from the ESOP trust but no right to receive any cash payments from Community Providers of Enrichment Services.
“The ESOP Participants misconstrue the ESOP Plan. Termination of the ESOP triggers certain distribution rights, but section 19 of the ESOP Plan does not require that those distributions be made in the form of CPES stock. The ESOP Participants are entitled to a cash distribution, but that distribution comes from the ESOP, not the Debtors.”
Two cases the participants cited, In re Indian Jewelers Supply Co. and In re Merrimac Paper Co., were not applicable in this case.
The participants further argued that Arizona law provided they were on par with unsecured creditors. “They cite Arizona Revised Statutes § 10-640(F), which provides that ‘[a] corporation’s indebtedness to a shareholder incurred by reason of a distribution made in accordance with this section is at parity with the corporation’s indebtedness to its general, unsecured creditors.’” However, the debtors were not indebted to the ESOP participants.
ERISA did not give the participants a right to payment from the debtors, so they were not transformed into unsecured creditors. Also, in this case, the debtors did not owe the participants any fiduciary duty.
The ESOP participants’ claims were duplicative of the ESOP trustee’s claims. The participants argued that the Bankruptcy Court erred in determining that their claims were duplicative of the ESOP trust’s claims. The panel discerned no error. The participants provided no proofs of claim. “Therefore, the record on appeal does not permit us to compare their claims with the ESOP Trustee’s claims.”
“The ESOP Participants complain, in summary, that the ESOP Trustee’s claims do not protect their rights. However, any claim recovered by the ESOP Trustee benefits the ESOP trust, which in turn benefits the ESOP Participants. Conversely, the ESOP Participants’ strategy of sustained litigation diminishes the assets available for distribution.”
The Bankruptcy Court did not err, and, thus, the court affirmed.