On September 24, 2012, the US Bankruptcy Court for the District of New Jersey denied a secured creditor's motion to assert a superpriority administrative expense claim under sections 503(b) and 507(b) of the Bankruptcy Code. The Court strictly interpreted the these provisions and held that the creditor did not met their requirements.

JPMorgan Chase (Chase) entered into a loan agreement and guarantee with the debtor, Mary Holder Agency, Inc. in September 2000. The loan was secured by a blanket lien on all of the debtor's assets. Chase properly perfected and maintained its security interest over its collateral.

On August 15, 2011, the debtor filed a Chapter 11 bankruptcy which was later converted into a Chapter 7 proceeding. The Court entered a final cash collateral order on October 17, 2011 which authorized the debtor's use of cash collateral and provided Chase with replacement liens on the debtor's postpetition receipts. However, the cash collateral order did not suggest that the replacement liens were granted as adequate protection, nor did the Court direct the debtor to provide adequate protection to Chase.

After learning that the trustee had received post-conversion payments of $7,438.81, Chase filed a motion seeking to assert a superpriority administrative claim under section 507(b) of the Bankruptcy Code.

Section 507(b) of the Bankruptcy Code grants a superpriority to claims of secured creditors if the adequate protection granted to protect their collateral proves to be inadequate. The superpriority is intended to compensate the secured creditor for any decrease in the value of its collateral occurring during the bankruptcy case that exceeds the adequate protection provided by the debtor. These superpriority claims have priority over most other administrative claims.

To qualify for section 507(b) status, creditors must meet the following three requirements:

The Court held that Chase did not meet the requirements necessary to entitle it to a section 507(b) superpriority claim. Chase failed to meet the first requirement because the October 17, 2011 cash collateral order did not characterize the replacement liens as adequate protection and the Court never directed the debtor to provide adequate protection to Chase.

Chase also failed to satisfy the second requirement because the Court was not persuaded that the debtor's use of Chase's collateral caused a decline in collateral value.

The Court further disagreed with Chase's argument that it is entitled to assert a section 503(b) administrative claim, which is the third requirement for superpriority status under section 507(b). To qualify for an administrative claim under section 503(b), a creditor must prove:

While some courts have been more lenient and ruled that the negotiation for continued possession of collateral in return for adequate protection is a postpetition transaction providing additional value to the estate, the Court chose not to follow those decisions. In any case, there was no evidence that any postpetition negotiations had occurred. The Court held that Chase did not satisfy the test because it seeks to recover its secured claim which is based on its prepetition loan agreement with the debtor. Therefore, the Court held that Chase's claim was not allowable as an administrative expense.

Chase may have been more successful in obtaining a superpriority claim had it been more proactive in protecting its interests at the outset of the case. While the requirements vary by jurisdiction, secured creditors should be more vigilant in drafting and negotiating adequate protection stipulations and cash collateral orders, to ensure that their collateral will be protected under both lenient and strict interpretations of sections 503(b) and 507(b) of the Bankruptcy Code.