In Re: Ditech Holding Corporation

Background

Finance of America Reverse LLC ("FoA") appealed a decision by the United States Bankruptcy Court for the Southern District of New York. That court had found legally insufficient FoA’s claim for approximately $14 million in administrative-expense priority against Chapter 11 debtor Reverse Mortgage Solutions, Inc. ("RMS"), based on alleged post-petition breaches of mortgage subservicing agreements. The bankruptcy court reclassified the claims as general unsecured claims.

FoA and RMS had entered three subservicing agreements. The agreements required RMS to collect and remit mortgage payments for FoA in exchange for fees and other consideration. RMS filed for Chapter 11 bankruptcy on February 11, 2019. After that filing, FoA and RMS entered additional extensions of the March 2011 Agreement. FoA also extended the October 2018 Agreement by exercising a renewal option. RMS’s Chapter 11 plan later took effect, and the business was sold to an unaffiliated third party that did not assume the subservicing agreements.

FoA filed a proof of claim seeking administrative priority for damages allegedly caused by RMS’s breaches during the post-petition period. The bankruptcy court concluded that FoA had not shown a plausible basis for administrative priority and treated the claims as general unsecured claims. On appeal, the district court reviewed legal conclusions without deference and reviewed factual findings for clear error. The claim-sufficiency standard was the same standard used for deciding whether a complaint states a plausible claim for relief.

Administrative Priority and Executory Contracts

An administrative expense under Section 503(b) of the Bankruptcy Code receives high payment priority and includes the actual, necessary costs of preserving the bankruptcy estate. The court explained that administrative priority generally requires an expense arising from a transaction with the debtor in possession or trustee, and the claimant must show that the consideration supporting payment was supplied to and benefited the debtor in possession in operating the business.

The court also discussed executory contracts—contracts on which important performance remains due from both sides. Under Section 365, a debtor in possession may assume or reject such a contract. Rejection is treated as a breach occurring immediately before the bankruptcy filing, which often makes resulting claims general unsecured claims. But post-petition breaches are treated as contingent pre-petition claims only when the risk of the future breach was within the parties’ fair contemplation when they entered the relevant contractual relationship.

March 2011 Agreement

The district court held that the bankruptcy court’s focus on whether the post-petition extensions were “new contracts” under New York law was misplaced. Whether a claim arises before or after the bankruptcy filing is governed by the Bankruptcy Code, not mechanically by state-law contract labels. The court also rejected the idea that the factors discussed in a prior case supplied a controlling test for classifying the extensions or the resulting claims.

The court concluded that the March 2011 Agreement did not itself require the parties to perform during the period for which FoA sought damages. The parties’ later mutual assent to post-petition extensions created the obligations that continued during that period. Therefore, the risk of the alleged post-petition breaches was not necessarily within the parties’ fair contemplation when they entered the original agreement. FoA’s claims for breaches occurring during the relevant post-petition period could therefore qualify for administrative priority, but only to the extent the bankruptcy court determines that they were actual, necessary costs and expenses of preserving the estate.

December 2017 and October 2018 Agreements

The court treated the December 2017 and October 2018 Agreements differently. For the October 2018 Agreement, FoA could extend the agreement unilaterally through its renewal option. Because it was foreseeable when the agreement was made that FoA could extend RMS’s obligations into the post-petition period without a new agreement or action by RMS, breach claims under that agreement were treated as arising before the bankruptcy filing under Section 365.

The court nevertheless held that this did not end the administrative-priority inquiry. Existing precedent recognized that administrative priority may still be available when the bankruptcy estate receives demonstrable benefits from performance under an executory contract, even if the contract is pre-petition and unassumed. The bankruptcy court therefore had to decide in the first instance whether FoA could establish administrative expenses under a demonstrable-benefits theory. The court stated that the same inquiry could potentially apply to the December 2017 Agreement to the extent it remained in effect during the relevant post-petition period.

Disposition

The district court rejected both sides’ broad positions. FoA was not entitled to administrative priority for every claim based on a post-petition breach merely because RMS continued receiving benefits. The Plan Administrator was also incorrect that administrative priority was unavailable whenever the parties had contemplated a possible future breach. The relevant questions included whether there was a post-petition transaction or induced performance and whether the estate received an actual, necessary, and demonstrable benefit.

The court vacated the Bankruptcy Court’s decision on claim sufficiency and remanded the case for further proceedings consistent with the opinion. It did not decide the final amount of FoA’s administrative claim or hold that FoA was entitled to payment of the full amount claimed.