Dueling Provisions: Creditor Prevails in Showdown Between Bankruptcy Code Sections

A Missouri bankruptcy court has permitted a creditor to take possession of spare aircraft parts and equipment from a debtor despite the fact that the creditor failed to perfect its security interest in the equipment. In an issue of first impression in the Sixth Circuit, the court held that under the plain language of Section 1110 of the Bankruptcy Code, a creditor, as a conditional vendor, had a right to take possession of the collateral pursuant to its agreement with the debtor, and that this right was not limited or otherwise affected by any other section of the Code (including Section 544) or by any power of the court. Vanguard Airlines, Inc. v. International Aero Components, Inc., 295 B.R. 908 (Bkrtcy.W.D.Mo.,2003).

Prior to filing for bankruptcy, Vanguard Airlines, Inc. entered into a transaction with International Aero Components, Inc. and GMAC Commercial Finance, LLC (hereinafter collectively referred to as “IAC” or ” creditor”), whereby the air carrier sold aircraft parts to IAC and simultaneously repurchased those assets from IAC on a fixed payment schedule. The agreement provided that IAC had the right to take possession of the aircraft parts in the event Vanguard defaulted. IAC did not perfect its security interest in the aircraft equipment by recording its interest with the Federal Aviation Administration or by filing a UCC-1 financing statement. Vanguard later defaulted on the agreement and filed for Chapter 11 relief. When the debtor failed to cure its default after filing for bankruptcy, IAC filed a proof of claim, asserting a security interest in the debtor's aircraft parts. The debtor filed an adversary proceeding alleging that the proof of claim was deficient. The debtor also sought to avoid IAC's unperfected security interest under ' 544. IAC then filed an amended proof of claim and an answer to the complaint, but neither document mentioned its rights under '1110. The creditor then sent the debtor a written demand to surrender and return the aircraft parts pursuant to '1110. The debtor refused and sought leave in the adversary proceeding to amend its pleadings to show that IAC was not entitled to relief.

In ruling for the creditor, the court began its substantive analysis by focusing on the interrelationship between '544(a) and '1110, and concluded that IAC's status as a conditional vendor under '1110 entitled it to collect on its debt free from the protections afforded to the debtor under '544. The court reasoned that: “the express and unambiguous language of Section 1110 provides that the right of IAC to pursue its collateral based on its underlying agreement is not limited by Title 11 or by any power of this Court.” It further asserted that “Congress intended to grant special protection to a limited class of aircraft financiers in drafting Section 1110,” and moreover, when Congress amended '1110 in 2000 it purposely included more expansive language.

In enacting '1110, Congress intended to extend extraordinary protection to financiers of aircraft in order to encourage investment by granting creditors the power to repossess aircraft without the usual protections afforded to a Chapter 11 debtor or trustee. The court opined that Congress created '1110 in an attempt to protect a limited class of aircraft financiers, and its provisions are narrowly construed to prevent parties from gaining its protections unless their interests are specifically enumerated. Conversely, '544, which addresses the transfer avoidance powers of a trustee, was enacted to aid the trustee in the recovery of estate property for the eventual benefit of all creditors. Therefore, '1110 unambiguously affords creditors the right to take possession of equipment pursuant to a security agreement, lease, or conditional sale contract, and that this right is not limited or otherwise affected by any other provision of the Code, or by any power of the court.

In reviewing the legislative history of '1110, the court noted, that prior to the 2000 amendments, '1110(a)(1) stated that it was “not affected by section 362, 363, or 1129, or by any power of the court to enjoin the taking of possession. …” Congress amended this language in 2000 by expressly deleting the limiting references to Section 362, 363, and 1129 in favor of the all-inclusive language, “any other provision of this title.” Therefore, any argument that '544 was not limited by '1110 because '544 was not specifically mentioned cannot prevail after the amendments. Rather, the court stated, “under the rules of statutory construction, the more specific provisions in Section 1110 ' which concerns the relationship between a specific chapter, a specific class of creditors, and specific collateral ' should take precedence over the more general provisions in Section 544.”

The court found further support for its conclusions in the case law of the Second Circuit. In California Chieftan v. Air Vermont, Inc. (In re Air Vermont, Inc.), 761 F.2d 130 (2nd Cir.1985), the Second Circuit overturned a bankruptcy court's conclusion that a creditor's unperfected security interest in an aircraft was voidable under '544 and that the creditor was not allowed to pursue the collateral pursuant to '1110. Even before the 2000 amendment language, the Second Circuit found that the legislative history of '1110 indicated an intention “to extend extraordinary protection to financiers of aircraft in order to encourage investment” by granting creditors the power to repossess aircraft without the usual protections afforded to a debtor or trustee in a Chapter 11 proceeding.” In addition, the Second Circuit held that '1110 did not specifically require a party's interest be perfected, “and the statute was unambiguous in allowing a creditor to repossess once the elements of Section 1110 were satisfied.”

In the instant matter, the court concluded that in spite of case law and secondary sources cited by the debtor that are critical of the Second Circuit's conclusions, in light of the “2000 amendments to Section 1110, the reasoning of the Second Circuit in Air Vermont is even more pertinent today than in 1985.” Consequently, the court termed as “nonsensical” the debtor's argument that even if it was required to surrender the aircraft equipment it should retain the ability to pursue avoidance of the creditor's security interest. The court stated that '1110 would have no purpose if the creditor could repossess aircraft equipment but did not retain the right to liquidate those assets.

Therefore, despite having failed to perfect its security interest, neither this fact nor the provisions of '544 prevented the creditor from recovering its collateral because of its conditional vendor status under '1110.

A Missouri bankruptcy court has permitted a creditor to take possession of spare aircraft parts and equipment from a debtor despite the fact that the creditor failed to perfect its security interest in the equipment. In an issue of first impression in the Sixth Circuit, the court held that under the plain language of Section 1110 of the Bankruptcy Code, a creditor, as a conditional vendor, had a right to take possession of the collateral pursuant to its agreement with the debtor, and that this right was not limited or otherwise affected by any other section of the Code (including Section 544) or by any power of the court. Vanguard Airlines, Inc. v. International Aero Components, Inc., 295 B.R. 908 (Bkrtcy.W.D.Mo.,2003).

Prior to filing for bankruptcy, Vanguard Airlines, Inc. entered into a transaction with International Aero Components, Inc. and GMAC Commercial Finance, LLC (hereinafter collectively referred to as “IAC” or ” creditor”), whereby the air carrier sold aircraft parts to IAC and simultaneously repurchased those assets from IAC on a fixed payment schedule. The agreement provided that IAC had the right to take possession of the aircraft parts in the event Vanguard defaulted. IAC did not perfect its security interest in the aircraft equipment by recording its interest with the Federal Aviation Administration or by filing a UCC-1 financing statement. Vanguard later defaulted on the agreement and filed for Chapter 11 relief. When the debtor failed to cure its default after filing for bankruptcy, IAC filed a proof of claim, asserting a security interest in the debtor's aircraft parts. The debtor filed an adversary proceeding alleging that the proof of claim was deficient. The debtor also sought to avoid IAC's unperfected security interest under ' 544. IAC then filed an amended proof of claim and an answer to the complaint, but neither document mentioned its rights under '1110. The creditor then sent the debtor a written demand to surrender and return the aircraft parts pursuant to '1110. The debtor refused and sought leave in the adversary proceeding to amend its pleadings to show that IAC was not entitled to relief.

In ruling for the creditor, the court began its substantive analysis by focusing on the interrelationship between '544(a) and '1110, and concluded that IAC's status as a conditional vendor under '1110 entitled it to collect on its debt free from the protections afforded to the debtor under '544. The court reasoned that: “the express and unambiguous language of Section 1110 provides that the right of IAC to pursue its collateral based on its underlying agreement is not limited by Title 11 or by any power of this Court.” It further asserted that “Congress intended to grant special protection to a limited class of aircraft financiers in drafting Section 1110,” and moreover, when Congress amended '1110 in 2000 it purposely included more expansive language.

In enacting '1110, Congress intended to extend extraordinary protection to financiers of aircraft in order to encourage investment by granting creditors the power to repossess aircraft without the usual protections afforded to a Chapter 11 debtor or trustee. The court opined that Congress created '1110 in an attempt to protect a limited class of aircraft financiers, and its provisions are narrowly construed to prevent parties from gaining its protections unless their interests are specifically enumerated. Conversely, '544, which addresses the transfer avoidance powers of a trustee, was enacted to aid the trustee in the recovery of estate property for the eventual benefit of all creditors. Therefore, '1110 unambiguously affords creditors the right to take possession of equipment pursuant to a security agreement, lease, or conditional sale contract, and that this right is not limited or otherwise affected by any other provision of the Code, or by any power of the court.

In reviewing the legislative history of '1110, the court noted, that prior to the 2000 amendments, '1110(a)(1) stated that it was “not affected by section 362, 363, or 1129, or by any power of the court to enjoin the taking of possession. …” Congress amended this language in 2000 by expressly deleting the limiting references to Section 362, 363, and 1129 in favor of the all-inclusive language, “any other provision of this title.” Therefore, any argument that '544 was not limited by '1110 because '544 was not specifically mentioned cannot prevail after the amendments. Rather, the court stated, “under the rules of statutory construction, the more specific provisions in Section 1110 ' which concerns the relationship between a specific chapter, a specific class of creditors, and specific collateral ' should take precedence over the more general provisions in Section 544.”

The court found further support for its conclusions in the case law of the Second Circuit. In California Chieftan v. Air Vermont, Inc. (In re Air Vermont, Inc.), 761 F.2d 130 (2nd Cir.1985), the Second Circuit overturned a bankruptcy court's conclusion that a creditor's unperfected security interest in an aircraft was voidable under '544 and that the creditor was not allowed to pursue the collateral pursuant to '1110. Even before the 2000 amendment language, the Second Circuit found that the legislative history of '1110 indicated an intention “to extend extraordinary protection to financiers of aircraft in order to encourage investment” by granting creditors the power to repossess aircraft without the usual protections afforded to a debtor or trustee in a Chapter 11 proceeding.” In addition, the Second Circuit held that '1110 did not specifically require a party's interest be perfected, “and the statute was unambiguous in allowing a creditor to repossess once the elements of Section 1110 were satisfied.”

In the instant matter, the court concluded that in spite of case law and secondary sources cited by the debtor that are critical of the Second Circuit's conclusions, in light of the “2000 amendments to Section 1110, the reasoning of the Second Circuit in Air Vermont is even more pertinent today than in 1985.” Consequently, the court termed as “nonsensical” the debtor's argument that even if it was required to surrender the aircraft equipment it should retain the ability to pursue avoidance of the creditor's security interest. The court stated that '1110 would have no purpose if the creditor could repossess aircraft equipment but did not retain the right to liquidate those assets.

Therefore, despite having failed to perfect its security interest, neither this fact nor the provisions of '544 prevented the creditor from recovering its collateral because of its conditional vendor status under '1110.