- Fifth Circuit Rules That under Applicable State Law Promissory Note Did Not Require Payment Of Make Whole upon Acceleration Prior To Maturity Unless Note Was Actually Prepaid
- February 7, 2014 | Author: Danielle Ann Pham
- Law Firm: Stutman, Treister & Glatt Professional Corporation - Los Angeles Office
In the case of In re Denver Merch. Mart, the United States Court of Appeals for the Fifth Circuit recently illustrated the importance of careful and precise drafting in contractual make whole provisions. Applying Colorado law to a promissory note that was accelerated following the occurrence of a pre-bankruptcy event of default, the Court held that the express provisions of the note did not require payment of a make whole simply upon acceleration of the note where there was no actual prepayment.
Debtor GC Merchandise Mart, LLC (“GCMM”) executed a promissory note (the “Note”) dated September 30, 1997 in the face amount of $30 million in favor of the predecessor in interest to Bank of New York Mellon (“Lender”). Among other provisions, the Note stated that it could not be prepaid prior to October 1, 2007 or between April 1, 2012 and October 1, 2012 (the maturity date), and that during the period October 1, 2007 and April 1, 2012, GCCM could prepay the Note but had to pay a defined make whole payment (the “Make Whole”). GCCM ceased making payments on the Note in October 2010, resulting in the Lender giving a notice of default that was not cured. The Lender obtained the appointment of a receiver and thereafter in 2011, GCMM filed its chapter 11 petition.
There was no dispute that Colorado law governed the interpretation of the Note. Following the few decisions under Colorado law addressing make whole provisions, the Fifth Circuit stated that Colorado law set forth the following guiding principles: (i) unless a note contains an express provision prohibiting early payment, a borrower can pay the note early if the borrower pays all future interest due on the note; (ii) if a note contains no express prohibition on early payment, the lender is not entitled to a prepayment penalty unless the note expressly provides so; (iii) if a lender accelerates a note, the acceleration is a waiver of the right to a prepayment penalty unless the note expressly provides otherwise, or the borrower intended to default under the note to avoid payment of additional interest; and (iv) parties can expressly contract around the foregoing principles of law - provided they do so clearly. Applying these guidelines, the Fifth Circuit next addressed the terms of the Note, focusing on Article 4 (“Default and Acceleration”) and Article 6 (“Prepayment”).
In pertinent part, Article 4 of the Note included two provisions relevant to determining whether the Make Whole was due under the Note following an Event of Default: (i) “interest, default interest, late charges and other sums, as provided in this Note, the Security Instrument or the Other Security Documents”; and (ii) “all other moneys agreed or provided to be paid by Borrower in this Note, the Security Instrument or the Other Security Documents.” The Fifth Circuit concluded that these provisions alone did not determine whether the Make Whole was due following a defined event of default, stating that the “other sums" or "other moneys" that must be paid logically "cannot include every potential payment referred to in the Note or else contract conditions would mean nothing.”
The Court next turned to the prepayment provisions of the Note. Article 6(A)(1) set forth when the Note could be prepaid, including a provision for paying the Make Whole. Specifically, Article 6(A)(1) required payment of the Make Whole if a "Default Prepayment" was made as “a prepayment of principal amount of this Note made during the continuance of any Event of Default or after an acceleration of the Maturity Date under any circumstances...” The Fifth Circuit read Default Prepayment to require “an actual prepayment to trigger the obligation to pay the [Make Whole].” As no actual prepayment was made, the Court concluded that no Make Whole was triggered under this provision. Lastly, Article 6(A)(3) of the Note required GCMM to pay the Make Whole “whether the prepayment is voluntary or involuntary (including without limitation in connection with Lender’s acceleration of the unpaid principal balance of the Note or the Security Instrument is satisfied or released by foreclosure (whether by power of sale or judicial proceeding), deed in lieu of foreclosure or by any other means.” The Court concluded that this section also did not apply as there was no actual prepayment.
The Court stressed the absence of any language in the Note deeming a Make Whole to arise in the event of acceleration, citing (and contrasting) In re CP Holdings, Inc., 332 B.R. 380 (W.D. Mo. 2005), which case addressed a note that included an express statement that a prepayment premium was payable upon acceleration.  The Fifth Circuit noted that the parties failed to include such clear language in the Note. Accordingly, although the permissive prepayment provision in the Note requiring payment of the Make Whole if a prepayment was made during the specified period was applicable at the time of the chapter 11 filing - and Article 6(A)(1) and Article 6(A)(3) allowed for a prepayment to occur (by any means) following an Event of Default or acceleration - the absence of an actual prepayment precluded any entitlement to the Make Whole.
Failing to find an express provision in the Note requiring payment of the Make Whole upon acceleration, the Fifth Circuit concluded that the general rule under Colorado law governing prepayment penalties controlled. “Absent a clear contractual provision to the contrary or evidence of the borrower’s bad faith in defaulting to avoid a penalty, the lender’s decision to accelerate acts as a waiver of a prepayment penalty.” In the case before it, the Fifth Circuit concluded that the Note did not require payment of the Make Whole upon mere acceleration. Rather, “the plain language plainly provides that no [Make Whole] ... is owed unless there is an actual prepayment, whether voluntary or involuntary.
 In re Denver Merch. Mart, Inc. (Bank of New York Mellon v. GC Merch. Mart, LLC, --- F.3d ---, 2014 WL 291920 (5th Cir. Jan. 27, 2014).
 Planned Pethood Plus, Inc. v. KeyCorp, Inc., 228 P.3d 262 (Colo. App. 2010), Kirk v. Kitchens, 49 P.3d 1189 (Colo. App. 2002), and Carpenter v. Winn, 566 P.2d 370 (Colo, App. 1977).
 Denver Merch. Mart at *2-*3.
 Id. at *3.
 Id. at *4.
 Id. at *5.
 In re AMR Corp., 730 F.3d 88 (2d Cir. 2013); In re Sch. Specialty, Inc., 13-10125 KJC, 2013 WL 1838513 (Bankr. D. Del. Apr. 22, 2013); Transcript of Proceedings, In re GMX Resources Inc., No. 13-11456 (Bankr. W.D. Okla. Aug. 27, 2013), ECF No. 687.