On September 10, 2024, the United States Court of Appeals for the Third Circuit issued a significant decision in In re The Hertz Corporation, No. 23-1169, addressing make-whole premiums and post-petition interest in the Chapter 11 reorganization of a solvent debtor. Writing for the panel, Judge Ambro held that (1) make-whole premiums are disallowed under § 502(b)(2) of the Bankruptcy Code as unmatured interest, but (2) the absolute priority rule nevertheless requires a solvent debtor to pay unimpaired unsecured creditors post-petition interest at the contract rate — inclusive of the make-whole amounts — before making distributions to equity holders. Judge Porter concurred in part and dissented in part.

Background

Hertz filed for Chapter 11 in the District of Delaware in May 2020 amid the COVID-19 pandemic. As the economy recovered, so did Hertz’s financial prospects: it emerged in June 2021 via a confirmed plan that distributed approximately $1.1 billion in cash, stock, and warrants to pre-petition stockholders.

The Plan designated the unsecured noteholders as unimpaired but paid post-petition interest at the federal judgment rate (0.15% annually) rather than the contract rate, and did not pay the “Applicable Premiums” — make-whole fees triggered by early redemption of the 2026 and 2028 Notes. The combined disputed amount exceeded $270 million. Because they were designated unimpaired, the noteholders were conclusively presumed to accept the Plan under § 1126(f); they reserved their rights and litigated post-confirmation.

The Court’s Analysis

The Third Circuit first held the Applicable Premiums must be disallowed under § 502(b)(2). The court found them to qualify as interest under both the definitional approach and the economic-equivalence approach adopted by the Fifth Circuit in Ultra Petroleum. The premiums are compensation Hertz committed to pay for the use of noteholder capital and are mathematically equivalent to the unmatured interest the noteholders would have received had Hertz redeemed the Notes on their scheduled Redemption Dates. A present-value discount, the court explained, does not transform interest into something else.

Although § 502(b)(2) disallows the premiums as claims, the court held the Code as a whole requires a solvent debtor to pay unimpaired creditors post-petition interest at the contract rate. The court grounded this result in the absolute priority rule — what it called “bankruptcy’s most important and famous rule” (quoting Czyzewski v. Jevic Holding Corp., 580 U.S. 451 (2017)).

Tracing the rule from Northern Pacific Railway Co. v. Boyd, 228 U.S. 482 (1913), through its codification in § 1129(b)’s “fair and equitable” standard, the court concluded that Congress incorporated the common-law rule — including its solvent-debtor corollary — into the Code. Under Jevic, the rule applies absent a clear statement authorizing departure, and no such statement disclaims pre-Code solvent-debtor practice. The court further reasoned that denying unimpaired creditors contract-rate interest would perversely leave them worse off than impaired rejecting creditors, who could obtain contract-rate interest through cramdown under § 1129(b).

Ordinarily the court would remand to assess whether “compelling equitable considerations” counseled against the contract rate. But Hertz never sought a remand, and the $1.1 billion equity distribution had already been made. The equities, the court concluded, demanded contract-rate recovery — including the Applicable Premiums as a component of that post-petition interest.

The Partial Dissent and Circuit Landscape

Judge Porter would have read § 502(b)(2) to plainly disallow unmatured interest and argued that absolute-priority treatment is not among the rights protected under § 1124(1).

In my view, the more consequential point for practitioners is that Hertz does not produce uniform circuit consensus. It aligns the Third Circuit with Ultra and the Ninth Circuit’s PG&E, but the Second Circuit’s In re LATAM Airlines Group, 55 F.4th 377 (2d Cir. 2022), reached contrary conclusions — including that the absolute priority rule applies only to impaired, rejecting classes under § 1129(b)(2). The Third Circuit treated the relevant LATAM discussion as dicta and expressly disagreed.

Why This Matters

For bondholders with make-whole provisions, Hertz confirms that in solvent-debtor restructurings within the Third Circuit, make-whole protections will be honored — not as allowed claims, but as a component of the contract-rate post-petition interest mandated by the solvent-debtor exception. Given Delaware’s prominence as a Chapter 11 venue, the decision will have outsized influence on bond-financed restructurings. For debtors, Hertz meaningfully constrains strategic use of § 502(b)(2) to shift value from creditors to equity.