CURTAILING THE ABUSE OF BANKRUPTCY TO EVADE OR AVOID WITHDRAWAL LIABILITY:

Bricklayers and Trowel Trades International Fund et al v. Wasco, Inc., 2015 U.S. Dist. LEXIS 171192; Bankr.

L. Rep. (CCH) ¶82,897

Withdrawal liability in bankruptcy

• Withdrawal liability claims generally have low priority and are unlikely to be paid in bankruptcy. In a liquidation case, they are further reduced by 50%.

• Funds incur huge losses due to the reduction of withdrawal liability claims in bankruptcy and the discharge of those claims in a Chapter 11 reorganization plan.

The Problem

• For at least 30 years, elimination or drastic reduction of pension liabilities in bankruptcy has become common.

• Sometimes, elimination of withdrawal liability is unavoidable as part of a bona fide reorganization.

• Increasingly, cases are brought in bankruptcy for the purpose of avoiding withdrawal liability.

The Wasco Case

• Wasco is the largest unionized masonry contractor in the South.

• In 2011, it deliberately triggered a $6.4 million withdrawal liability by terminating its §8(f) contract.

• Wasco made interim payments of $47,000 per month for about one year, but then stopped making any payments and threatened to file bankruptcy.

Wasco’s pre-bankruptcy planning

• The IPF sued to enforce the interim payment obligation, and Wasco demanded arbitration.

• In the meantime, from 2012 to 2014, Wasco shed cash by—– Paying shareholders $350,000 in bonuses– Increasing salaries and expense allowances– Eliminating accountability for expenses– Purchasing a competing business for the owners’ sons at a cost of

$865,000 (later, more than $1 million)

Wasco’s pre-bankruptcy planning cont’

• Wasco also spent $1 million in professional fees while preparing for bankruptcy

• Wasco offered the IPF about $2 million to settle the withdrawal liability claims

• The Union offered Wasco an abatement of the withdrawal liability in return for a CBA, participating in the pension plan, and making all back contributions

Wasco’s pre-bankruptcy planning cont’

• The Sneed family also sold some of its property to re-finance Wasco directly (eliminating some secured debt)

• It also redeemed some of the owners’ stock at a share price indicating an overall company value of $4 million

• Wasco continued to make an operational profit despite these expenditures

Bankruptcy filed to forestall judgment

• In December 2014, the IPF obtained summary judgment on its claim for interim withdrawal payments

• The court scheduled proceedings for January 2015 to enter judgment after each party submitted an update of its calculations for interim liability

• Wasco filed its bankruptcy petition just before judgment was to be entered

Wasco’s press release

• Wasco stated that it filed the bankruptcy petition “due to a disagreement with the Bricklayers” union and to “plac[e] a stay or a hold on [Debtors’] ongoing litigation with the Pension Fund.”

• The press release also stated “we are sound and profitable” and “Wasco is committed to making the process unnoticeable.” It promised to pay its trade creditors in full.

Early stages of the bankruptcy

• Wasco immediately filed a “critical vendors” motion to pay its trade creditors in full.

• There were so few creditors left that the UST was unable to form a creditors’ committee. It appointed the IPF and one insider to a two-person committee.

• IPF now held 85% to 90% of all unsecured debt in Wasco.

The 2004 Exam and the Plan

• The Union and IPF sought a 2004 exam to prepare for the filing of a motion to dismiss the case as having been presented in bad faith.

• Wasco responded by accelerating its plan of reorganization. It proposed a plan that eliminated the withdrawal liability but paid only a token sum to creditors.

Retaining control without new value

• An essential feature of the plan was that the Sneed family retained control of Wasco but paid only a token sum, arbitrarily set at $350,000, as “new value” for the equity.

• Wasco claimed its equity was worthless but made no serious effort to sell.

• Wasco also retained control of all preference and fraudulent conveyance lawsuits, so none of its pre-bankruptcy acts could be questioned.

• On the eve of trial, Wasco increased the new value payment to $600,000.

The Issues

• A joint trial was held in August 2015 on three main issues:– The Union’s motion to dismiss for bad faith– A traditional bankruptcy theory, that the plan violated the absolute

priority rule because equity was retained without sufficient new value

– A theory that the plan itself was a transaction to evade or avoid withdrawal liability under ERISA §4212(c)

Evidence at the trial

• Wasco admitted that it had not made any reorganizational effort during the bankruptcy

• Wasco admitted that the purpose of the bankruptcy was to eliminate withdrawal liability

• It presented no evidence as to value• The IPF presented an expert who testified that the company

value was $4 million

The bankruptcy court ruling

• The bankruptcy court endorsed Wasco’s scheme to evade and avoid withdrawal liability

• It held that it is legitimate to bring a bankruptcy case to get rid of one undesired debt even if there is no bona fide reorganization

• It held that the policy of the Code trumps ERISA’s “evade or avoid” prohibition

• It held that the new value contribution was too small and ordered that it be increased to $900,000, but rejected the only evidence of value at trial

Stay proceedings

• Because a consummated plan will moot any appeal, it was critical to obtain a stay before Wasco executed its exit-financing or paid a dividend to creditors.

• The bankruptcy court denied the stay.• The district court, setting as an appellate court, granted an

emergency motion for a stay and required a bond of $600,000 (the value of the company proposed by Wasco).

Appellate Decision: Motion to Dismiss

• The District Court used a common, eight-factor balancing test to hold that Wasco had filed the petition in bad faith:– The case was essentially a two-party dispute.– The case was filed to forestall judgment.– There was no bona fide reorganization.– The press release established an intent to frustrate one creditor.

Motion to Dismiss, cont’

– Wasco had raised economic hardship as a defense to the interim withdrawal payment lawsuit, and lost.

– The settlement offer was evidence of bad faith because the owners made discretionary payments to themselves instead.

– It was error to increase the new value payment as a remedy for wrongful pre-petition conduct instead of simply dismissing the case.

Appellate Decision: Evade or Avoid

• The bankruptcy court was incorrect in holding that §4212(c) applies only to sham transactions.

• Cases discharging withdrawal liability were distinguishable because evading or avoiding WDL need not be the sole purpose of a scheme that runs afoul of §4212(c) so long as it is “a principal” purpose.

Evade or Avoid cont’• A reorganization plan can itself be a transaction that evades or

avoids WDL.• A plan in violation of §4212(c) is proposed by a means

forbidden by law, in violation of §1129(a)(3) of the Code.• The Code does not trump ERISA.• The bankruptcy court erred by not giving weight to the pre-

petition insider transactions as evidence of a scheme to evade or avoid.

Appellate Decision: New Value

• The District Court never reached the new value question because the case was fully disposed by the first two issues

• The bankruptcy case was to be dismissed.• The confirmation order was reversed.

What happened to Wasco?

• Wasco appealed to the Sixth Circuit. The District Court however required a $1 million bond. Wasco could not post the bond.

• Shortly thereafter, Wasco signed a new CBA with the Union, agreed to participate in the pension fund, and paid all back contributions to 2011.

Significance of Wasco• Wasco is the first and so far the only appellate decision to hold

that ERISA’s “evade or avoid” section constitutes to a barrier to plan confirmation under §1129(a)(3).

• This rationale ought to extend to any violation of federal labor law, not just ERISA.

• Wasco is one of only a few cases to hold that a bankruptcy brought for an improper purpose under labor law should be dismissed.

Significance of Wasco, cont’

• It is no longer permissible to file bankruptcy for the principal purpose of adjusting withdrawal liability.

• It is no longer permissible for a plan to have this purpose as its primary goal.

• Caveat: Wasco will not prevent an employer from adjusting withdrawal liability in a bona fide reorganization case.

Lessons of Wasco

• File a 2004 examination early in the case.• File your motion to dismiss early. It takes at least 51

days to get a decision. (21 days for notice, 30 days to rule).

• Seek a blocking position in the general unsecured creditors class. Don’t gerrymander yourself into your own class.

Lessons of Wasco, cont’

• Present all defenses you may have under §1129.• Object to third-party releases.• Preserve your ability to pursue claims after confirmation.• Obtain a stay of the confirmation order.