Re-reading Reading: "Fairness to All Persons" in the Context of Administrative Expense Priority for Postpetition Punitive Fines in Bankruptcy

I. INTRODUCTION Who gets the money when there isn't enough to go around? This is the practical question that the bankruptcy system seeks to answer every day.1 In answering this question, the Bankruptcy Code draws a particularly bright line at the filing of a bankruptcy petition.2 The filing of a petition creates the bankruptcy estate, which is a distinct legal entity from the debtor.3 Creditors with claims against the debtor arising before filing (prepetition)4 receive payment of their claim, if at all, through bankruptcy's collective distribution scheme. In contrast, persons whose claims arose after filing (postpetition), but before completion of the bankruptcy proceeding, cannot receive payment of their claims through the general bankruptcy distribution5 because their claims are against the estate, rather than against the debtor.6 The ability of a postpetition creditor to recover from the estate depends on whether the postpetition claim qualifies as an administrative expense under 11 U.S.C. 503(b). Postpetition claims granted priority will be paid in their entirety-even if this exhausts the estate-prior to payment of any prepetition claims.7 Postpetition claims denied administrative expense priority are either dischargeds in a Chapter 11 reorganizations or individual Chapter 7 liquidation,10 or they survive against the worthless shell of the debtor remaining after a corporate Chapter 7 liquidation. Thus payment of postpetition claims is generally an all-or-nothing proposition contingent upon the claim being granted administrative expense priority.11 Congress defined administrative expenses to include expenses to the bankruptcy proceeding, such as compensation for trustees, creditor costs in filing an involuntary bankruptcy petition, and reasonable attorney and accountant fees.12 Congress also defined administrative expenses to include the actual, costs and expenses of preserving the estate,13 thus leaving courts with the task of interpreting and defining the outer boundaries of administrative expense priority. While it is clear that postpetition costs that actually benefit the estate-including costs concerned with the continuing operation of the business-fall within this category and should receive administrative expense priority, it is less clear whether postpetition costs that do not benefit the estate should qualify as actual and necessary administrative expenses.14 The Supreme Court addressed this issue in the 1968 case of Reading Co. v. Brown.l5 Reading concerned a compensatory damages claim for the negligence of the receiver in a Chapter XI arrangement.ls The Court granted administrative expense priority for this claim and held that it was more natural and just that those injured by the operation of the business during an arrangement should. . . recover ahead of for whose benefit the business is carried on. Reading thus established compensatory fairness as a central interpretive principle in determining what costs would receive administrative expense priority. Postpetition punitive fines, which by definition are non-compensatory, add a new wrinkle to the question. Some courts considering these punitive fines have granted administrative expense priority based solely upon Reading and its discussion of costs ordinarily incident to the operation of a business.18 Such decisions, however, clearly violate the Reading Court's concern for compensatory fairness, because they leave injured claimants uncompensated in order to fully compensate uninjured claimants.19 Other courts considering postpetition punitive fines have acknowledged that Reading alone cannot provide the basis for administrative expense priority.20 These courts instead have granted priority based upon 28 U.S.C. 959, which requires that bankruptcy estates be operated in accordance with all valid state laws.21 These courts have reasoned that denying administrative expense priority for postpetition punitive fines provides an advantage to bankrupt businesses over their nonbankrupt competitors, thus violating the principle of competitive neutrality. …