Roundup: Recent Op-Eds on Bankruptcy for Banks

The House of Representatives’ passage first of the Financial Institution Bankruptcy Act (FIBA) and then of the Financial CHOICE Act last Thursday has made bankruptcy for banks and the fate of Dodd-Frank’s Orderly Liquidation Authority (OLA) a live issue again. Both FIBA and the CHOICE Act would add a “subchapter V” to chapter 11 to resolve financial conglomerates in bankruptcy. Unlike FIBA, however, the CHOICE Act would also repeal the OLA, leaving bankruptcy as the only option for handling the failure of a financial conglomerate.

Several academics, former regulators, and practitioners, including several contributors to the Bankruptcy Roundtable, have recently published op-eds weighing arguments for and against replacing the OLA with bankruptcy. Support for adding tools to the Bankruptcy Code is widespread. Commentators differ, however, on whether bankruptcy, by itself, can address the systemic risk concerns that prompted the creation of the OLA and on whether it would be useful to have a bankruptcy procedure more robust than subchapter V.

Stephen Lubben contends that without a mechanism for providing liquidity to financial institutions—the usual providers of funding for companies in chapter 11—the Bankruptcy Code cannot effectively handle a widespread financial crisis. Mark Roe emphasizes that economic stability requires having the OLA and related structures to allow subchapter V to succeed (through regulatory coordination with international authorities and supervision over financial institutions to ensure that they have the capital structures to facilitate a subchapter V resolution). The OLA is also needed in case a subchapter V reorganization fails, as subchapter V is not a general bankruptcy authorization but, instead, a mechanism to use the 48-hour “single-point-of-entry” restructuring strategy in bankruptcy. This point renews some of the arguments Roe and David Skeel expressed earlier on ways subchapter V should be strengthened, such as by the addition of a regulatory trigger and a means to deal with an inability to complete the resolution within 48 hours.

Finally, Sheila Bair and Paul Volcker argue that having the OLA as a backstop for a failed bankruptcy makes government bailouts less likely, as the OLA provides regulators with the tools to wind down a failed financial institution in an orderly fashion. In contrast, Stephen Hessler argues that the Bankruptcy Code, amended along the lines of subchapter V, would promote both market discipline and financial stability. A bankruptcy judge applying well established precedents and rules in a subchapter V case would combat moral hazard more effectively than the OLA, which grants regulators significant discretion to treat similarly situated creditors differently.

(By Rebecca Green, Harvard Law School, J.D. 2017.)

Recent Roundtable coverage of this subject includes posts on a letter submitted to Congress by academics and the Trump administration’s direction to the Treasury to issue a report on the OLA.

Testimony before House Judiciary Committee on Financial Institution Bankruptcy Act

By Stephen E. Hessler, Kirkland & Ellis LLP

hesslerCongress is again advancing legislation to amend the Bankruptcy Code to add specific provisions for administering the case of a major financial institution.  The belief that the Chapter 11 filing of Lehman Brothers was a key cause of the Great Recession led Congress to enact in 2010, as part of the Dodd-Frank Act, Title II, which provided “orderly liquidation authority” to the federal government to wind down insolvent financial companies whose failure would have “serious adverse effects on financial stability in the United States,” in proceedings administered by the FDIC.  Although there has never been a Title II proceeding, Dodd-Frank has been significantly criticized for creating a new resolution framework that imbues politically-sensitive regulators with broad and untested discretion to liquidate a major bank.

In further response, the House of Representatives last year passed the Financial Institution Bankruptcy Act of 2014, but the Congressional session expired without consideration of the bill by the Senate.  In July 2015, the House Judiciary Committee held another hearing on H.R. 2947, the reintroduced Financial Institution Bankruptcy Act of 2015.  This bill, which is substantively identical to last year’s iteration, proposes to amend the Bankruptcy Code by adding a new Subchapter V within current Chapter 11.  The central feature of Subchapter V is referred to as the “single point of entry” approach that allows a debtor to separate quickly upon filing “good” from “bad” assets through a near-immediate postpetition transfer of “good” assets to a nondebtor bridge company whose equity is held by a trust that is managed by a special trustee for the benefit of creditors of the chapter 11 estate.  The “bad” assets would then be liquidated within the chapter 11 case.  Critically, both the proposed transfer and liquidation transactions are subject to Bankruptcy Court approval.

For a further exploration of the legislation and these issues, my testimony before the House Judiciary Committee in 2015 is available here and my testimony before the House Judiciary Committee in 2014 is available here. Please note the views expressed in my testimony are solely my own, and are not offered on behalf my firm, any client, or other organization.

For a previous Roundtable post on the Financial Institution Bankruptcy Act see here.