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Described by its sponsors as “designed to protect employees and retirees from corporate practices that rob them of their earnings and retirement savings when businesses collapse into bankruptcy,” the Employee Abuse Prevention Act of 2002 (S. 2798/H.R. 5221, introduced on Aug. 1) would, if it became law, make significant changes to provisions of the U.S. Bankruptcy Code that affect corporate bankruptcies. Notwithstanding the bill’s laudable expressed intent in the wake of Enron and other recent high-profile cases, the effects of its enactment would reach far beyond the treatment of employee claims in bankruptcy cases. The proposed changes that directly relate to employee-related claims include: � Creating a new fourth priority unsecured claim for the debtor’s stock held in a pension plan for non-management employees, unless the employees had the option to elect that the assets be invested differently. The amount of the claim would be measured by the market value of the stock at the time of its contribution to the pension plan. This contravenes the well-substantiated policy, embodied in � 510(b) of the Bankruptcy Code and pre-Code case law, of subordinating fraud and similar claims relating to equity securities. � Granting administrative expense priority status, with priority over all other administrative expenses and recoverable from the collateral for any secured claim, to claims arising from violations of the debtor’s fiduciary obligations to an employee pension plan under ERISA. The new superpriority administrative expense could have a serious impact on the availability of debtor-in-possession financing, and the charge against collateral, if determined to be constitutional, would impose an unprecedented risk on all secured creditors. � Expanding the coverage of the fraudulent transfer provisions contained in � 548 of the Bankruptcy Code to enable the avoidance of an “excess benefit transfer” or “excess benefit obligation” (each of which terms is defined by numerical tests) to an insider, general partner or “other affiliated person” of the debtor. Similarly, large postpetition retention payments would not be authorized absent a court finding, based on evidence in the record, that the relevant individual has a bona fide job offer from another business at the same or greater rate of compensation. This would create an incentive for key managers to seek competing job offers at precisely the time that their attention to the debtor’s business may be most needed. Comparable limits would be imposed on severance arrangements. � Increasing the wage and employee benefit priority claim cap from $4,650 to $13,500. Moreover, the legislation contains other potentially far-reaching changes that seem less closely related to recoveries on employee-related claims, such as: � Extending the coverage of the fraudulent transfer provisions contained in � 548 of the Bankruptcy Code to transactions occurring during the four-year period prior to the petition date (instead of the current one-year period). Providing express authority for the recharacterization of a sale, lease or other transaction as a secured loan if the “material characteristics” of the transaction are “substantially similar” to the characteristics of a secured loan. This would heighten concerns in the securitization market that legitimate off balance sheet financing of mortgage loans, credit card receivables, vehicle fleets and the like will be subjected to attacks by debtors and creditors intended to sweep the securitized assets back into the debtor’s estate. It is also unclear how this would interact with Bankruptcy Code provisions designed to protect major financial markets and the financing of the national debt by exempting repurchase agreements, forward contracts, securities contracts and swap agreements — all of which may have some economic attributes in common with secured loans — from the effects of the automatic stay and avoidance provisions. � Limiting the provisions of Section 546(e)of the Bankruptcy Code so that it can no longer be interpreted to exempt leveraged buyout payments and other distributions made to shareholders from avoidance, an exemption that arguably was not intended by Congress. In so doing, however, the bill would cut back the protection that Congress clearly intended to afford to the national securities markets against “ripple effects” from the failure of a major market player by exempting mark-to-market, margin and settlement payments to securities dealers (whether acting as brokers or principals) in connection with securities contracts from avoidance. � Eliminating flexible state of incorporation and affiliated company venue rules so as to restrict appropriate venue for a Bankruptcy Code case to the location of the debtor’s principal place of business. This would likely reduce the number of major corporate filings in the bankruptcy courts in Delaware and New York City, which have gained substantial expertise in the handling of large Chapter 11 cases. News reports indicate that Congress will take up the bill after the August recess. Congress should give careful consideration to the impact of the bill on longstanding Bankruptcy Code policies intended to protect creditors, promote the prospects for reorganization of viable businesses, and safeguard the stability of the major financial and capital markets. Harold S. Novikoff and Richard G. Mason are partners in the Creditors’ Rights department of Wachtell, Lipton & Katz, wwwl.wlrk.com, in New York.

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