In September of last year,  the Honorable Peter J. Walsh, the judge presiding over the NVF Company bankruptcy, issued an opinion regarding the application of section 502(b)(3) of the Bankruptcy Code.  The opinion is interesting in that the Court decided not to apply a strict interpretation to a section of the Bankruptcy Code, but instead apply an interpretation that is consistent with legislative intent.  This post looks at the issues that arise when a party seeks to disallow a claim under 502(b)(3), and look at Judge Walsh’s decision not to invoke a strict interpretation when doing so is contrary to the intent and purpose of the Bankruptcy Code.


NVF, through one of its debtor subsidiaries, Parsons Paper Company, owned a paper mill in Holyoke, Massachusetts.  Parsons shut down its paper mill in 2004, approximately one year prior to its filing for bankruptcy (NVF and Parsons will be collectively referred to as "Debtors").  Approximately five  months into bankruptcy, Debtors filed a notice of intent to abandon the Holyoke property.  Eleven months after the commencement of Debtors’ bankruptcy, the City of Holyoke, Massachusetts filed a proof of claim for approximately $1.4 million.  The City’s claim constituted six years of property taxes owed by the Debtors. The Debtors objected to the claim, arguing that its books and records showed "no amount owed to the creditor." 

Issues Before the Court

Debtors argued that under section 502(b)(3) of the Bankruptcy Code,  the Holyoke claim should be disallowed.  Section 502(b)(3) provides, in relevant part, that the court "shall allow such claim in such amount, except to the extent that … (3) if such claim is for a tax assessed against property of the estate, such claim exceeds the value of the interest of the estate in such property." 

The City argued that the plain language of 502(b)(3) should not be applied to its claim.  Doing so "would lead to a result demonstrably at odds with the intention of the drafters."  See In re NVF Company, et al., Case No. 05-11727(PJW) (September 26, 2008) at p. 11.  The Debtors, on the other hand, argued that since the property was abandoned by the Debtors and had no value to the estate, and since both parties agree that the value of the tax liens exceeds the value of the property,  under the plain meaning of 502(b)(3), the entire amount of the City’s claim should be disallowed.  Id.


The Court began its analysis by noting that the City’s claim seems to fall within section 502(b)(3) and that a strict application of the Code would "yield the result advocated by the Debtors."  Id. at 12.  However, instead of sustaining the Debtors’ objection to the City’s claim, Judge Walsh found that "this is one of those rare cases where such a strict application would produce a result that is demonstrably at odds with the legislative intent."  Id. 

In choosing legislative intent over strict interpretation, Judge Walsh cited to a string of cases that had applied the "rare case" exception to a section of the Bankruptcy Code.  See, Channel Home Ctrs. Realty Corp. v. Channel Home Ctrs., Inc., 989 F.2d 682 (3d Cir. 1993);  See also, Waugh v. Internal Revenue Serv. (In re Waugh), 109 F.3d 489 (8th Cir. 1997). 

The Court in NVF Company next looked at the legislative intent behind 502(b)(3):  first, to prevent a windfall to mortgagees and other lienholders who would unfairly benefit if the estate had to pay the property taxes; and, second, to "prevent injustice to unsecured creditors."  Id. at 16.  By enacting 502(b)(3), Congress sought to avoid a situation where a mortgage holder or subsequent owner of an abandoned property takes the property, yet the creditors of the estate are forced to pay the tax lien.  Id. 

The Court concluded that the property Debtors abandoned in the City of Holyoke was not one that would be able to be sold as the tax liens, demolition costs, as wells as environmental remediation costs all made the property unmarketable.  Having reached this conclusion, the Court also found that there "is no successor owner who could benefit from the windfall that section 502(b)(3) seeks to prevent."  Id.  at 17.


In addition to its interpretation of 502(b)(3),  Judge Walsh’s opinion in NVF Company provides a discussion of "Congress’ historic concern for the collection of taxes due and owing to national, states and local governments," citing Lawler v. County of Henrico, 636 F.2d 68, 70 (4th Cir. 1980).  To address this concern, courts and Congress alike recognize that a "taxing authority is given preferred treatment because it is an involuntary creditor of the debtor.  It cannot choose its debtors, nor can it take security in advance of the time that taxes become due."  Id. at 20 (citations omitted).