Secured creditors in bankruptcy often face the prospect of recovering less than the full value of their claims against the debtor. This frequently arises when the creditor’s collateral is worth less than the amount of its claim, an “undersecured claim” in bankruptcy parlance. Undersecured claims are bifurcated into two separate claims: a secured claim for the value of the collateral, and an unsecured claim for the remainder of the creditor’s claim. Secured claims are typically paid in full, while creditors often receive little or nothing on unsecured claims. Because the value of a secured creditor’s collateral may fluctuate in response to market conditions—say, for example, a systemic housing market crash or a pandemic-induced recession—it can be left with an artificially low secured claim in some cases. Coupled with the likelihood of receiving little to nothing on the unsecured portion of its claim, these secured creditors are left with a bitter pill to swallow. However, in chapter 11 cases, a secured creditor has the option of avoiding the bifurcation of its claim entirely. That is, the secured creditor can elect to have the entire amount of its allowed claim treated as secured, even if the amount of the claim far exceeds the value of the collateral.
This election, found in § 1111(b) of the U.S. Bankruptcy Code, can be a boon to an undersecured creditor in some circumstances. However, it may not always be the best course of action. Understanding the requirements, effects, and limitations of § 1111(b) is key to using it strategically to maximize the recovery for an undersecured creditor.
There are several threshold requirements for a secured creditor to be eligible to make the § 1111(b) election, most of which are set forth in the statute itself. First, if the debtor sells or intends the sell the creditor’s collateral through the bankruptcy case or under the plan, the election is not available (unless the claim arises from a non-recourse obligation, where the creditor may look only to the collateral for repayment). Second, the creditor’s secured claim in the collateral cannot be of “inconsequential value.” This requirement has generated conflicting caselaw regarding when a secured creditor may make the § 1111(b) election. Some courts will compare the value of the collateral to the amount of the creditor’s total claim, and deem the collateral of “inconsequential value” if it represents a small proportion of the creditor’s total claim, typically less than 10%. Other courts have held that the correct approach is to compare the value of the creditor’s secured claim to the value of the collateral. This approach is relevant for a secured creditor holding a junior lien, but would probably never bar a secured creditor with a first priority lien from making the election. Still other courts have held, in the context of chapter 11 cases proceeding under the recently-enacted subchapter V, that the court should take the purpose and policy behind the statute into account in conducting its analysis. Finally, a creditor must generally make the election prior to the conclusion of the hearing on the debtor’s disclosure statement. Thus, in subchapter V cases, where no disclosure statement is required, creditors should take care to ensure that a deadline for making the election has been set by the court, and request the imposition of such a deadline if it has not been set.
Making the § 1111(b) election has three important effects on the creditor’s claim. First, it makes the entire claim a secured claim, which means the creditor will have no unsecured claim in the case. Second, it entitles the creditor to retain its lien on its collateral, in the full amount of its claim, until paid in full. This can be particularly valuable where the creditor believes there is a high likelihood of the debtor defaulting under the plan. Third, it entitles the creditor to specific plan treatment. Unless the creditor accepts less favorable treatment, the plan must provide for payments to the creditor with a present value (as of the effective date of the plan) equal to the amount the creditor’s secured claim would have been had it not made the § 1111(b) election. Further, the plan must propose to pay the entire claim in full, over time. For example, if a creditor has a claim for $100,000 secured by collateral worth only $40,000, and it makes the § 1111(b) election, the plan must propose to pay the creditor payments with a present value (e.g. with interest to compensate for the time-value of money if paid over time) of $40,000, and the total payments the creditor receives under the plan must total at least $100,000.
The first drawback to the § 1111(b) election is that there is little restriction on how the debtor pays the entire claim over time. Using the example above, the debtor could propose to pay $40,000 in cash on the effective date, and then pay the remaining $60,000 with no interest over 20 or 30 years. If the collateral is real property, many courts would likely conclude that such treatment is fair and equitable. Another major limitation on the election is the elimination of the electing creditor’s unsecured deficiency claim. If the debtor’s plan proposes a substantial payout to creditors holding general unsecured claims, it may be in the creditor’s best pecuniary interest to forego the election in favor of realizing a recovery on its deficiency claim. Similarly, in cases where the creditor making the election is the largest creditor in the case and is projected to have a substantial deficiency claim, it may be preferable to forego the election in order to be in a position to carry the vote of the general unsecured class. This may put the creditor in a position to block confirmation and leverage more favorable plan treatment from the debtor.
The § 1111(b) election provides a useful tool for a secured creditor in chapter 11 cases. It can provide some insurance for creditors who believe that the debtor (or market conditions) has under-valued their collateral, or who believe that the debtor is unlikely to fully perform its obligations under the plan. However, in some circumstances it can provide an undersecured creditor with a smaller recovery than opting to have a bifurcated claim. In order to maximize its recovery, an undersecured creditor must consider the nature of its collateral, the likelihood of the debtor performing under the plan, and the alternative stream of cashflows which may be realized by foregoing the election and retaining an unsecured claim.
 11 U.S.C. § 506(a).
 11 U.S.C. § 1111(b)(2).
 11 U.S.C. § 101 et seq.
 11 U.S.C. § 1111(b)(1)(B)(ii).
 11 U.S.C. § 1111(b)(1)(B)(i).
 See, e.g., In re Wandler, 77 B.R. 728 (Bankr. D.N.D. 1987).
 See McGarey v. MidFirst Bank (In re McGarey), 529 B.R. 277, 284 (D. Ariz. 2015) (“Thus, in order to determine ‘inconsequential value’, Section 1111(b) directs that we compare the lien value to the asset value. Nothing in Section 1111(b) suggests that it would be appropriate to compare the lien value to the total value of the creditor’s claim.”).
 See In re Body Transit, Inc., 619 B.R. 816, 836 (Bankr. E.D. Pa. 2020) (“The key point here is that the ‘inconsequential value’ determination is not a bean counting exercise; the determination cannot be based solely on a mechanical, numerical calculation. Some consideration must be given to the policies underlying both the right to make the § 1111(b) election and the exception to that statutory right.”).
 Fed. R. Bankr. P. 3014.
 See 11 U.S.C. §§ 1125 and 1181(b).
 11 U.S.C. § 1129(a)(7)(B).
 11 U.S.C. § 1129(b)(2)(A)(i)(II).
 See, e.g., In re Velazquez, No. 18-02209-EAG11, 2020 Bankr. LEXIS 1387, 2020 WL 4726199 (Bankr. D.P.R. May 27, 2020) (confirming plan proposing to pay secured claim subject to § 1111(b) over 20 years when the collateral was real property).