When a company files for bankruptcy, there is almost never enough money to satisfy everyone. Creditors of all types such as banks, landlords, lessors, vendors, and taxing authorities submit claims against the estate. Because resources are limited, the bankruptcy system must decide not only who gets paid, but in what order. This concept of priority is central to every bankruptcy case, and disputes over priority can make the difference between a meaningful recovery and no recovery at all.
Understanding Priority in Bankruptcy
Not all debts are treated equally. Under the Bankruptcy Code, some obligations are considered so important that they must be paid before others. These are known as priority debts. Common examples include recent tax obligations, unpaid wages, child support, and certain administrative expenses that arise after the bankruptcy filing. For business creditors, priority status can extend to specific claims such as post-petition rent for landlords or administrative claims for vendors who delivered goods within 20 days of the bankruptcy filing under Section 503(b)(9).
In contrast, non-priority unsecured debts such as trade credit, unpaid invoices, or breach of contract damages are usually at the back of the line. Once higher-ranking claims are paid, little or nothing may be left for this group. The distinction is therefore critical.
Why Priority Disputes Arise
While the law sets out categories of priority, disputes are common because every dollar paid to one creditor reduces what is available to others. Vendor claims often lead to disputes when a supplier argues that goods delivered shortly before filing qualify for administrative expense priority, while the debtor or trustee disputes the timing or value of the delivery. Landlords may demand administrative rent for the debtor’s use of property during bankruptcy, while the debtor contends that the space provided little or no benefit to the estate. Government entities may assert priority status for certain taxes, while other creditors challenge the scope or age of the liabilities. Secured creditors sometimes argue that their collateral covers more than what the estate acknowledges, while unsecured creditors fight to limit that coverage so more assets are available for distribution.
Each of these disputes requires interpretation of both facts and law, and they often become central issues in the case.
The Absolute and Relative Priority Rules
Two concepts dominate priority disputes: the absolute priority rule and the relative priority rule.
The absolute priority rule requires that senior claims be paid in full before junior claims receive anything. In theory this seems straightforward. In practice, disputes arise because valuation is rarely clear. How much collateral is truly worth, or how much revenue the estate will generate, can be hotly contested. Even small differences in valuation can shift entire classes of creditors from recovery to nothing.
The relative priority rule, which is more prominent in Chapter 11 reorganizations, looks at whether different classes of creditors are treated fairly in relation to one another. A plan cannot be confirmed unless it provides for full payment of priority claims. This gives those creditors leverage during plan negotiations and often puts them in a stronger bargaining position than unsecured creditors.
Why It Matters for Creditors
For creditors, priority status can determine whether a claim has real value. A vendor who establishes a Section 503(b)(9) claim for goods delivered within 20 days of the filing may receive full payment, while a vendor with an otherwise identical claim that falls outside the window may receive only pennies. A landlord who proves an administrative rent claim can be paid in full for post-petition occupancy, while other unsecured creditors may recover little or nothing.
Banks and private lenders are also affected. While secured creditors are often first in line, valuation battles can limit the extent of their secured recovery and push part of their claim into the unsecured pool. These disputes shape negotiations and frequently determine whether a reorganization plan succeeds or fails.
Risks for Landlords
Landlords frequently face disputes when debtors seek to minimize or avoid post-petition rent obligations. A confirmed administrative rent claim can be paid in full, but only if the landlord demonstrates that the property provided a tangible benefit to the estate. Careful records of occupancy and use are critical to maximize recovery and to defend against challenges to rent claims.
Concerns for Equipment Lessors
Lessors may find their rights contested if debtors argue that lease payments or equipment use provided little value to the estate. Establishing that the equipment was necessary for operations can support administrative claims. Lessors should also be prepared for disputes about whether leases should be reclassified as disguised financing arrangements, which can affect their priority.
Issues for Vendors
Vendors who supplied goods shortly before a filing often seek Section 503(b)(9) administrative claims. These claims can provide full payment but are frequently disputed on timing, delivery, or valuation grounds. Vendors must keep detailed shipping, delivery, and invoicing records to defend their position and preserve priority status.
Impacts on Banks and Credit Unions
Banks and credit unions often face valuation disputes that affect how much of their claim is treated as secured versus unsecured. Debtors may attempt to lower collateral values, pushing more of the lender’s claim into the unsecured pool. Financial institutions should be ready with appraisals and expert testimony to establish fair valuation and protect secured status.
Why Private Lenders Must Be Cautious
Private lenders, particularly those without institutional resources, are vulnerable when debtors challenge the extent of their collateral or attempt to reclassify their claims. Without quick action, a secured claim may be partially disallowed or downgraded to unsecured status. Private lenders should retain counsel early to ensure lien perfection is defended and valuation disputes are addressed promptly.
Why Speed and Counsel Matter
Priority disputes move quickly. Deadlines to file proofs of claim, administrative expense requests, or plan objections are unforgiving. Missing these deadlines often means losing the right to assert priority altogether. Once a reorganization plan is confirmed, it binds all creditors, even those who failed to act.
Engaging counsel early ensures that claims are properly filed, supported by documentation, and aggressively defended when challenged. Counsel can also help creditors navigate negotiations, where many priority disputes are resolved without trial. A creditor who waits risks losing leverage, missing deadlines, or being crammed down into an unfavorable treatment.
Practical Takeaways
Creditors can improve their position in priority disputes by maintaining accurate records of invoices, delivery dates, leases, and payment histories. Vendors should monitor financially distressed customers closely to ensure that shipments made near a bankruptcy filing are properly documented for Section 503(b)(9) claims. Landlords should track occupancy and benefits to the estate to support administrative rent claims. Lenders should be prepared with valuation evidence to defend the extent of their secured position. Above all, creditors should act immediately when bankruptcy is filed. Waiting to see how the case unfolds is often a mistake that results in lost rights.
Conclusion
Priority disputes are not just technical legal issues. They go to the heart of who gets paid in bankruptcy and who is left out. For landlords, lessors, vendors, banks, and private lenders, priority status can turn a worthless claim into one that is paid in full. Because these disputes often dictate the outcome of the case, creditors must be prepared to assert their rights quickly and strategically.
If you are a creditor facing a bankruptcy case, do not wait until your rights are challenged or deadlines pass. Contact us to review your claim, assess priority status, and protect your recovery from the start.
Curtis Campbell represents landlords, lessors, vendors, lenders, and financial institutions in all aspects of bankruptcy litigation, including fraudulent transfer actions. Contact us to learn how we can help safeguard your rights and maximize your recovery.