Quasi-Bankruptcy Quagmires

The United States Constitution, Article I, Section 8, provides, in pertinent part, that Congress shall have the power to establish “uniform Laws on the subject of Bankruptcies throughout the United States.” It is generally accepted that there is one uniform regime of bankruptcy law throughout the United States — Title 11 of the United States Code. However, in the past several years, situations have arisen where bankruptcy protection has been elusive for parties in need of reorganization. What remedies do those unfortunate parties, who either do not qualify under the Bankruptcy Code, or who may qualify but cannot effectively reorganize under Title 11, have? Furthermore, if a receivership under federal law is an option, can it be used as an “offensive” remedy by a debtor against its creditors in an attempt to reorganize outside of Title 11?

Entities That Cannot Legally File for Bankruptcy Relief

Certain entities may be precluded by federal law or policy from filing for bankruptcy; and they may be forced to use alternative relief, if available. For instance, the Commonwealth of Puerto Rico found itself in a situation where it could not qualify for relief under Chapter 9 of the Bankruptcy Code because 11 U.S.C. §101(52) specifically excluded it from the definition of a State that may seek relief under Chapter 9, and the law its legislators passed to track the relief afforded to debtors under Chapters 9 and 11 of the Bankruptcy Code (the Puerto Rico Public Corporation Debt Enforcement and Recovery Act) was held to be pre-empted by Bankruptcy Code Section 903(1). The latter section specifically bars states (in this context Puerto Rico was included in the definition of a state) from enacting “municipal bankruptcy laws.”

In June 2016, the United States Supreme Court upheld lower court decisions that placed Puerto Rico in this “catch-22” (see, Puerto Rico v. Franklin California Tax Free Trust, 136 S. Ct. 1938 (2016)). It could not file for relief under Title 11 (Chapter 9, specifically), nor could it enact its own laws to provide equivalent relief. It stayed in this predicament until Congress passed the Puerto Rico Oversight, Management and Economic Stability Act (PROMESA) later in 2016, which created an oversight board and a process for Puerto Rico and its public entities to restructure their debt.