United States Objection to Plan Confirmation — In re KServicing

Record facts

U.S. Bankruptcy Court for the District of Delaware · No. 22-10951 · Doc. 593 · 2023-02-28 · Docket on CourtListener

Summary

The United States' Reservation of Rights and Limited Objection to the Amended Joint Chapter 11 Plan of Liquidation of Kabbage, Inc. (d/b/a KServicing) and its affiliated debtors, filed February 28, 2023 as Doc 593 in Case No. 22-10951 (CTG) in the U.S. Bankruptcy Court for the District of Delaware, on behalf of the United States and the U.S. Small Business Administration. The objection gives five grounds: the plan cannot unilaterally settle claims of the United States, which has until April 3, 2023 to file claims; the United States opts out of third-party releases; a liquidating debtor cannot receive a discharge under 11 U.S.C. § 1141(d)(3); a confirmation order cannot bar police and regulatory actions; and setoff and recoupment rights must be preserved. It asks the court to deny confirmation absent modification, ahead of the March 13, 2023 hearing.

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IN THE UNITED STATES BANKRUPTCY COURT 
FOR THE DISTRICT OF DELAWARE 
 
 
 
 
In re: 
KABBAGE, INC. d/b/a KSERVICING, et 
al.,1 
Debtors. 
 
 
Chapter 11 
 
 
Case No. 22-10951 (CTG) 
 
(Jointly Administered) 
 
Re: Docket Nos. 466 
Obj. Deadline: February 28, 2023, at  
4:00 p.m. (ET) 
Hearing Date: March 13, 2023, at  
10:00 a.m. (ET) 
 
 
 
 
UNITED STATES’ RESERVATION OF RIGHTS AND LIMITED OBJECTION TO THE 
AMENDED JOINT CHAPTER 11 PLAN OF LIQUIDATION OF KABBAGE, INC. (d/b/a 
KSERVICING) AND ITS AFFILIATED DEBTORS 
 
 
The United States of America (the “United States”) on behalf of itself and the U.S. Small 
Business Administration (“SBA”), submits this reservation of rights and limited objection 
(“Objection”) regarding the Amended Joint Chapter 11 Plan of Liquidation of Kabbage, Inc. (d/b/a 
KServicing) and Its Affiliated Debtors (ECF 466) (the “Plan”).  In support of this Objection, the 
United States avers as follows: 
   
 
1 The Debtors in these chapter 11 cases, along with the last four digits of each Debtor’s federal tax 
identification number, as applicable are: Kabbage, Inc. d/b/a KServicing (3937) (the “Company”); 
Kabbage Canada Holdings, LLC (N/A); Kabbage Asset Securitization LLC (N/A); Kabbage Asset 
Funding 2017-A LLC (4803); Kabbage Asset Funding 2019-A LLC (8973); and Kabbage 
Diameter, LLC (N/A).  Kabbage is a trademark of American Express used under license; Kabbage, 
Inc. d/b/a KServicing is not affiliated with American Express.  The Debtors’ mailing and service 
address is 925B Peachtree Street NE, Suite 383, Atlanta, GA 30309. 
 
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NOTICE CONFORMING TO LOCAL RULE 9013-1 
Pursuant to Rule 9013-1(h) of the Local Rules of Bankruptcy Practice and Procedure of 
the United States Bankruptcy Court for the District of Delaware, the United States does not consent 
to the entry of final orders or judgments by the Court if the Court, absent consent of the parties, 
cannot enter final orders or judgments consistent with Article III of the United States Constitution.    
FACTUAL BACKGROUND 
 
1. 
Debtors filed voluntary petitions under Chapter 11 of the Bankruptcy Code on 
October 3, 2022 (the “Petition Date”). 
2. 
The Company has serviced online-originated loans since its founding in 2008.2  See 
ECF 13, Declaration of Deborah Rieger-Paganis (“Rieger-Paganis Decl.”) ¶ 9.  
3. 
In response to the COVID-19 pandemic, Congress enacted the Coronavirus Aid, 
Relief, and Economic Security (“CARES”) Act, Pub. L.  No. 116-136, 134 Stat. 28, signed into 
law on March 27, 2020.  The CARES Act created the Paycheck Protection Program (“PPP”).  The 
PPP authorized the SBA to guarantee private lender-funded potentially forgivable loans to eligible 
small businesses, non-profits, and self-employed individuals to pay employees and certain 
operating expenses during the pandemic.  CARES Act § 1102, 134 Stat. at 286 (codified at 
§ 636(a)(36)(F)(i)).  For funding these loans, the SBA paid private lenders a processing fee. 
4. 
The SBA authorized the Company to become an originator and servicer of PPP 
loans.  Rieger-Paganis Decl. ¶¶ 11, 15. 
 
2  Capitalized terms used herein but not otherwise defined herein shall have the meanings ascribed 
to them in the Plan and Disclosure Statement. 
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5. 
The Company currently only services its loan portfolio and the loan portfolio of its 
Partner Banks.  As of the Petition Date, those portfolios included mostly loans issued to small 
businesses, non-profits, and self-employed individuals under the PPP.  Id. ¶ 9.   
6. 
The Board of Governors of the Federal Reserve System established the Paycheck 
Protection Program Liquidity Facility (“PPPLF”).  Through the PPPLF, the Federal Reserve Bank 
of San Francisco, among others, financed PPP lenders’ PPP loan originations.  Id. ¶ 27.  The 
Company obtained financing from the PPPLF with certain Company-originated PPP loans 
securing the financing.  Id. ¶ 28.   
7. 
Debtors filed their Joint Chapter 11 Plan of Liquidation on October 4, 2022.  ECF 
14.   On October 5, 2022, Debtors filed their initial Disclosure Statement.  ECF 63. 
8. 
On October 26, 2022, the Court established April 3, 2023, as the deadline for 
Governmental Units to file proofs of claim.  ECF 169. 
9. 
On December 30, 2022, Debtors filed their first amended plan and disclosure 
statement.  ECF 395; ECF 396.   
10. 
On January 19, 2023, the Court heard Debtors’ motion to approve the Disclosure 
Statement.  ECF 176.  Afterwards, Debtors filed an amended Plan and Disclosure Statement.  ECF 
466; ECF 467.  The same date, the Court approved the Disclosure Statement, as amended.  ECF 
470.  The Court scheduled the confirmation hearing for March 13, 2023.   
ARGUMENT 
11. 
 The Plan cannot be confirmed for five reasons.  First, to the extent that 
confirmation of the Plan unilaterally settles any claim of the United States, the Plan cannot be 
confirmed.  Second, to the extent that the Plan would impose a non-consensual third-party release 
upon the United States, its cannot be confirmed.  Third, to the extent that any Plan confirmation 
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order discharges Debtors from any debts, it cannot be confirmed.  Fourth, any Plan confirmation 
order that enjoins the United States’ enforcement of its police and regulatory powers prevents 
confirmation.  Fifth, to the extent that any confirmation order prohibits the United States from 
exercising its setoff and recoupment rights, the Court must not confirm the Plan. 
A. 
The Plan cannot unilaterally settle claims of the United States. 
 
12. 
To the extent that the Plan unilaterally settles Claims of the United States, 
circumvents the requisite bankruptcy court approval, or otherwise prejudices the United States’ 
Claims, the Plan is improper.  As part of the “Means for Implementation,” section 5.8, 
“Preservation of Rights of Action” of the Plan states: “Notwithstanding anything contained herein 
to the contrary, the settlement of any Claims and Causes of Action which are expressly to be settled 
by Confirmation of this Plan itself shall be resolved only by Confirmation of this Plan itself.”  Plan 
at 28.  Neither the Plan nor the Plan Supplement specify Claims and Causes of Action that are 
“expressly to be settled by Confirmation.”   
13. 
To the extent Debtors contend that the United States’ claims are “expressly to be 
settled by Confirmation” under section 5.8, the Plan cannot be confirmed.  Section 1123(b)(3)(A) 
of the Bankruptcy Code permits the settlement or adjustment of any claim belonging to Debtors 
or to the estates but does not allow Debtors to unilaterally settle creditors’ claims against Debtors.  
The United States has not consented to the compromise or settlement of its claims, especially 
where the universe of the United States’ claims will be undetermined before the Effective Date as 
the United States has until April 3, 2023 to file its claims.  Debtors should clarify that Plan 
provisions surrounding settlement and compromise shall not preemptively settle or compromise 
the United States’ claims without the United States’ consent.    
 
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B.  The United States opts out of third-party releases set forth in the Plan. 
14. 
To be clear, the United States opts out of and objects to the third-party non-debtor 
release provisions set forth in Section 10 and elsewhere in the Plan.  While the Third Circuit 
stopped short of holding that a non-debtor release is impermissible, it opined that, at most, such a 
provision could only be valid in “extraordinary” cases and that the “hallmarks” of permissible non-
consensual releases are “fairness, necessity to the reorganization, and specific factual findings to 
support these conclusions.”  In re Cont’l Airlines, 203 F.3d 203, 212–14 (3d Cir. 2000); see also 
In re Wash. Mut., 442 B.R. at 351-52 (collecting cases).  The bankruptcy court in In re Genesis 
Health Ventures, Inc. interpreted Continental to mean that “limiting the liability of non-debtor 
parties is a rare thing that should not be considered absent a showing of exceptional circumstances 
in which several key factors are present.”  266 B.R. 591, 608 (Bankr. D. Del. 2001) (internal 
quotation marks omitted).  In In re Tribune, the bankruptcy court required the following factors be 
present to justify the rare release: “(i) the non-consensual release was necessary to the success of 
the reorganization, (ii) the releasees have provided a critical financial contribution to the Debtor’s 
plan, (iii) the releasees’ financial contribution is necessary to make the plan feasible, and (iv) the 
release is fair to the non-consenting creditors, i.e., whether the non-consenting creditors received 
reasonable compensation in exchange for the releases.”  464 B.R. at 177–78) (citing In re Genesis, 
266 B.R. at 607–08).   Here, Debtors make no adequate showing of a single factor considered in 
the Third Circuit to justify a non-consensual release of non-debtors in these liquidating cases from 
their potential liability to the United States. 
 
 
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C. Neither the Plan nor any Confirmation Order Can Grant a Discharge to the 
Debtors.  
 
15. 
Section 10.3(f)(2)3 of the Plan states that Debtors are not entitled to discharge.  This 
is correct: Debtors seek confirmation of a liquidating plan and a liquidating debtor is not entitled 
to a discharge.  See 11 U.S.C. § 1141(d)(3) (providing that a debtor is not entitled to a discharge 
where (1) the plan liquidates all of the estate’s property, (2) the debtor does not engage in business, 
and (3) the debtor would be denied a discharge in a chapter 7 bankruptcy).  Yet, the Plan repeatedly 
references “discharged.”  See Plan at 28, section 5.10 (stating that “the obligations of the Debtors 
thereunder shall be deemed . . . discharged”); Plan at 40, section 10.3(a) (referencing “any Claim 
. . .  discharged”); Plan at 41, section 10.3(c) (referencing “an Allowed Claim or Interest . . . 
discharged”).  Further, Debtors are not entitled to an injunction that functionally operates as a 
discharge: to prevent creditors from taking action on account of any liabilities that are not debts.  
See In re Sis Corp., 120 B.R. 93, 96 (Bankr. N.D. Ohio 1990) (holding that injunction contained 
in liquidating plan was “in derogation of § 1141(d)(3)”).  Yet, the Plan includes language seeking 
to permanently enjoin all holders of Claims or Interests.  Section 10.3(b) permanently enjoins all 
holders of Claims or Interest “from (i) commencing, conducting, or continuing in any manner, 
directly or indirectly, any suit, action, or other proceeding of any kind […] (ii) enforcing, levying, 
attaching (including, without limitation, any prejudgment attachment), collecting, or otherwise 
recovering by any manner or means, [….] (iii) creating, perfecting, or otherwise enforcing in any 
 
3 Debtors have represented that the confirmation order will include provisions of section 10.3(f).  
As no proposed confirmation order has been filed, the United States includes this objection to 
preserve its right to assert the objection if the confirmation order does not include the provisions 
of section 10.3(f). 
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manner, directly or indirectly, any encumbrance of any kind […] (iv) asserting any right of setoff, 
directly or indirectly, against any obligation due from the Debtors,” Plan at 41, and this language 
mirrors the discharge provisions set forth in 11 U.S.C. § 524.  To the extent that this provision 
would discharge Debtors or purport to offer Debtors relief under the discharge provisions set forth 
in section 524, the Plan cannot be confirmed.  
D. The Confirmation Order Must Not Prohibit the United States from Exercising 
its Police and Regulatory Powers.  
 
16. 
While section 10.3(f)4 of the Plan permits the United States to pursue any police or 
regulatory action after confirmation, to the extent that any confirmation order would enjoin the 
United States from pursuing police and regulatory actions post-confirmation, the court cannot 
confirm the Plan.  No confirmation order may enjoin the United States from seeking nonmonetary 
relief or enforcement of other liabilities that are not debts as defined under 11 U.S.C. § 101(5) 
(defining claim) and §101(12) (defining debt as liability on a claim).  See In re Torwico Elecs., 
Inc., 8 F.3d 146, 151 (3d Cir. 1993); In re Chateaugay Corp., 944 F.2d 997, 1008 (2nd Cir. 1991).  
Thus, any confirmation order must include a provision like section 10.3(f) to clarify that the United 
States may pursue any police and regulatory action. 
 
 
 
4 Debtors have represented that the confirmation order will include provisions of section 10.3(f).  
As no proposed confirmation order has been filed, the United States includes this objection to 
preserve its right to assert the objection if the confirmation order does not include the provisions 
of section 10.3(f). 
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E. 
The United States explicitly hereby preserves and asserts its right to setoff and 
recoupment.  
  
17. 
Although Section 10.3(f)5 carves the United States out of any provisions that would 
enjoin, impair, or release the United States’ setoff or recoupment, to the extent the confirmation 
order prevents the United States from exercising its setoff and recoupment rights, the court cannot 
confirm the Plan.  Confirmation does not extinguish setoff claims when they are timely asserted.  
In re Cont’l Airlines, 134 F.3d 536, 541–42 (3d Cir. 1998).  Like other creditors, the United States 
has the common law right to setoff mutual debts.  “The government has the same right ‘which 
belongs to every creditor, to apply the unappropriated moneys of his debtor, in his hands, in 
extinguishment of the debts due to him.’”  United States v. Munsey Tr. Co. of Wash., D.C., 332 
U.S. 234, 239 (1947) (quoting Gratiot v. United States, 40 U.S. 336, 336 (1841)); see also Amoco 
Prod. Co. v. Fry, 118 F.3d 812, 817 (D.C. Cir. 1997).  “The government’s common law right of 
setoff—which is inherent in the federal government—is broad and ‘exists independent of any 
statutory grant of authority to the executive branch.’”  Marre v. United States, 117 F.3d 297, 302 
(5th Cir. 1997) (quoting United States v. Tafoya, 803 F.2d 140, 141 (5th Cir. 1986)).    
18. 
Similarly, “[r]ecoupment . . . allows the creditor to assert that certain mutual claims 
extinguish one another in bankruptcy, in spite of the fact that they could not be ‘setoff’ under 11 
U.S.C. § 553.”  Lee v. Schweiker, 739 F.2d 870, 875 (3d Cir. 1984).  “The justification for the 
recoupment doctrine is that where the creditor’s claim against the debtor arises from the same 
transaction as the debtor’s claim, it is essentially a defense to the debtor’s claim against the creditor 
 
5 Debtors have represented that the confirmation order will include provisions of section 10.3(f).  
As no proposed confirmation order has been filed, the United States includes this objection to 
preserve its right to assert the objection if the confirmation order does not include the provisions 
of section 10.3(f). 
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rather than a mutual obligation, and application of the limitations on setoff in bankruptcy would 
be inequitable.”  Id.   Therefore, to the extent that the Plan attempts to impair the United States’ 
recoupment or setoff rights, it is impermissible and the Court should not allow Debtors to eliminate 
or enjoin such right. 
RESERVATION OF RIGHTS 
19.   Prior to the filing of this Objection, counsel for the United States communicated its 
concerns with Plan to Debtors’ counsel, and proposed language, where applicable, that would 
resolve its concerns.  The United States understands that Debtors have expressed willingness to 
include the language of section 10.3(f) in the confirmation order.  Notwithstanding, the United 
States has yet to receive or review a proposed confirmation order.  Accordingly, due to the deadline 
for filing objections, the United States objects to the Plan to preserve its rights.  The United States 
expressly reserves its rights to raise any other objections to the Plan at the hearing. 
CONCLUSION 
20. 
For the foregoing reasons, the United States respectfully requests the Court to (a) 
deny confirmation of the Plan absent modification to address the United States’ concerns raised in 
this Objection, and (b) grant such other and further relief as this Court deems just and proper.  
Dated:  February 28, 2023 
 
 
 
Respectfully submitted, 
BRIAN M. BOYNTON 
Principal Deputy Assistant Attorney General  
 
DAVID C. WEISS 
United States Attorney  
 
/s/ Alastair M. Gesmundo 
 
 
RUTH A. HARVEY 
RODNEY A. MORRIS 
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ALASTAIR M. GESMUNDO 
STANTON McMANUS  
Commercial Litigation Branch 
Civil Division 
United States Department of Justice  
P.O. Box 875 
Ben Franklin Station 
Washington, D.C. 20044  
 
   
Tel. (202) 305-4659  
Fax (202) 514-9163 
Alastair.M.Gesmundo@usdoj.gov 
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