June 19, 2006

Venable Appellate Team Secures Major Win in U.S. Supreme Court Resolving Circuit Split on Priority of Unsecured Creditors in Bankruptcy

4 min

Washington, DC (June 19, 2006) – The U.S. Supreme Court has resolved a split among the federal courts of appeal on whether insurance companies that are owed premiums for workers’ compensation insurance by debtors in bankruptcy are entitled to priority status ahead of other unsecured creditors under the U.S. Bankruptcy Code. 

The decision, Howard Delivery Service, Inc., et al., v. Zurich American Insurance Co., authored by Justice Ruth Bader Ginsburg in a 6-3 majority opinion, settled a thorny question of statutory construction of the Bankruptcy Code that had divided the lower courts for years, namely whether claims in bankruptcy proceedings for unpaid workers’ compensation insurance premiums are claims for contributions to an “employee benefit plan” that are entitled to priority over other claims under what is now ¶ 507(a)(5) of the Bankruptcy Code.

Relying upon the arguments made by Venable appellate counsel Paul F. Strain, who argued the case before the high court, and Lawrence A. Katz, who wrote the briefs and the petition for a writ of certiorari that convinced the Court to hear the case, the Court reversed decisions by the U.S. Courts of Appeals for the Fourth and Ninth Circuits and held that such claims are not entitled to priority status over other unsecured claims.

As the Court explained, this decision will help preserve funds in bankruptcy for distribution to important interests such as pension funds and health care plans, benefiting the employees of bankrupt corporations.  “This is an especially important issue now that the newly enacted Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 has increased the cap for employee benefit claims from $4,925 per employee to $10,000 per employee,” said Mr. Strain, a partner in Venable LLP’s Litigation Division and a former Deputy Attorney General of Maryland.  “The Court recognized that Congress had carefully crafted the Bankruptcy Code to ensure that some creditors, such as insurance companies, did not come out better than the workers themselves.”

“This is a case that insurance companies, multi-employer health and welfare funds and bankruptcy practitioners around the country have been watching and closely anticipating,” said Mr. Katz, a partner in the Bankruptcy and Creditors’ Rights Group at Venable who has served as bankruptcy counsel for the Official Committee of Unsecured Creditors of Howard Delivery Service, Inc. throughout the proceedings.  “The case could potentially impact every bankruptcy filing by a company with employees.”

In the proceeding below, the U.S. Court of Appeals for the Fourth Circuit had held that workers’ compensation insurance premiums fell within the definition under the Bankruptcy Code of “contributions to an employee benefit plan.”  Consequently, claims for such premiums, the court stated, should be given priority under the Code over other types of unsecured claims.  Believing the Fourth Circuit had misinterpreted this provision of the Bankruptcy Code, Venable successfully petitioned the Supreme Court to review the decision.

Howard Delivery Service, Inc. operated as an over-the-road-freight carrier to the Midwest and Mid-Atlantic region. The company employed hundreds of truck drivers, mechanics, freight handlers, management and general administrative personnel. The company terminated its freight hauling business in the fall of 2001 and filed a petition for protection under Chapter 11 of the Bankruptcy Code in January 2002.

Zurich American Insurance Company provided insurance on the workers’ compensation claims for Howard.  As Howard Delivery slid into bankruptcy, it failed to pay $410,215 in insurance premiums to Zurich. 

The Court rejected Zurich’s arguments that the term “employee benefit plan” should have the same meaning as it has under the federal ERISA laws, which expressly define that phrase to include plans for workers’ compensation benefits.  Under the Supreme Court’s decision, Zurich will receive no distribution, since, as Justice Ginsburg noted, Zurich had agreed to withdraw its claim if it did not prevail on appeal.

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