Good News for Creditors: Preferred Treatment of Trade Claims Incurred in the 20 Days Before Bankruptcy

When a company files bankruptcy, trade creditors are frequently left in financially vulnerable positions.  Trade creditors are generally unsecured, and frequently receive only pennies on the dollar from bankrupt debtors' estates.  We are frequently asked whether trade creditors have any recourse against a debtor to improve their likelihood of recovery.  One of our first questions to trade creditors is, "did you provide the debtor with any goods during the 20 days prior to the bankruptcy filing?"

Normally, general unsecured creditors fall well down the ladder of classes entitled to payment from a bankrupt debtor's estate.  Under the Bankruptcy Code, secured creditors, administrative claimants, and all priority unsecured creditors must be paid in full before unsecured creditors are entitled to any distribution.  Section 503(b)(9) of the Bankruptcy Code allows unsecured trade creditors to jump up the distribution ladder in certain situations.  Under section 503(b)(9), creditors that provided goods to the debtor during the 20 days prior to the commencement of the debtor's bankruptcy case are allowed to submit an application to recover the value of the goods provided to the debtor during that time period, so long as the goods were provided by the creditor in the ordinary course of business.  If the application is granted, the creditor receives an administrative claim in the amount of the goods provided during the 20 days before the commencement of the case.  As noted above, administrative claims are paid before any other unsecured claims, thereby increasing a trade creditor's likely distribution.

In addition to increasing a trade creditor's likely recovery, 503(b)(9) claimants are also generally paid prior to general unsecured creditors.  Although 503(b)(9) claims do not have to be paid immediately, they must, at the very latest, be paid in full on the effective date of the applicable plan of reorganization in a Chapter 11 case.  In the vast majority of cases, the effective date of a plan is significantly in advance of distributions to other unsecured creditors seeking payment through the general claims administration process.  Accordingly, creditors should prioritize the filing of their 503(b)(9) claims in order to expedite a portion of their possible recovery.

It is important to note that Section 503(b)(9) claims are limited to claims for "goods" sold.  The term "goods" is not defined by the Bankruptcy Code.  Courts therefore generally rely on the definition of goods found in the Uniform Commercial Code ("UCC").  According to section 1-203(k) of the UCC, the definition of goods includes:

[A]ll things (including specially manufactured goods) which are movable at the time of identification to the contract for sale other than the money in which the price is to be paid, investment securities (Article 8) and things in action. "Goods" also includes the unborn young of animals and growing crops and other identified things attached to realty as described in the section on goods to be severed from realty.

The UCC definition of goods is not, however, without ambiguity.  Debates remain as to whether certain items, such as electricity, constitute "goods."  Further, courts are split on how to pay 503(b)(9) claims when a creditor seeks payment for a combination of goods and services provided to a debtor.  Even so, most trade creditors that supplied products to a debtor within the requisite time period will be eligible for a 503(b)(9) claim.  In order to preserve their claims, trade creditors should submit 503(b)(9) claims in an expeditious manner.

The Bankruptcy Code does not specifically state when an administrative claim must be filed.  Generally, administrative claims under section 503(b)(9) must simply be "timely," if a specific deadline for such claims has not been set by local rules or a court's scheduling order.  If a creditor's administrative claim is untimely, the creditor must show "cause" for why its claim should be granted.  Creditors should, as a default rule, consider filing their administrative claims early in a bankruptcy case, if at all possible.  Doing so will ensure the creditor obtains the benefits of priority status, without having to engage in potentially costly hearings to prove "cause" for why its claim should be allowed.

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