The Economic Logic of the Lease/Loan Distinction in Bankruptcy
39 Pages Posted: 25 Mar 2011
Date Written: March 21, 2011
The Bankruptcy Code accords much more favorable treatment to lessors than to secured lenders, but legal scholars have yet to identify a normative justification for the disparate treatment of the two transaction types. Law-and-economics scholars have written off the lease/loan distinction as "vacuous"; meanwhile, courts and commentators alike have called on Congress to abolish the distinction entirely. This Note identifies a normative basis for the lease/loan distinction - the maximization of aggregate welfare - and explains why leases are likely to generate less deadweight loss than are secured transactions. In a secured loan, the secured lender and the borrower may be able to shift depreciation costs to the borrower’s other creditors. By allowing bankruptcy courts to alter the terms of secured loans, the Bankruptcy Code limits (but does not eliminate) the depreciation cost externalities that may arise from secured transactions. In a lease, by contrast, the lessor and the lessee internalize depreciation costs in full. Since leases do not generate depreciation cost externalities, the Bankruptcy Code does not authorize courts to alter the terms of such transactions.
Keywords: leases, secured loans, Uniform Commercial Code, Bankruptcy Code
JEL Classification: D60, G32, G33, K10, K11, K12
Suggested Citation: Suggested Citation