Claims can be subordinated in a plan without going through a claims objection process

The bottom line

In Mersho v. Pitta (In re Nikola Corp.), 2026 WL 2655169 (D. Del. Sept. 9, 2026), the United States District Court for the District of Delaware recently affirmed the Bankruptcy Court’s decision holding that a class of securities litigation claims could be subordinated in a Chapter 11 plan without first going through a claims objection process to subordinate the claims. The Court reasoned that the Bankruptcy Code distinguishes between (i) the disallowance of claims and (ii) allowed claims that may be subordinated in a Chapter 11 plan through plan confirmation, which qualifies as a contested matter. While the practical outcome of claim subordination – leaving claimants with no recovery – may be the same as claim disallowance, utilizing plan classification and treatment in lieu of claims objections allows debtors to address securities litigation claims in a substantially more streamlined manner.

Background

Claims may be subordinated as part of plan confirmation

Dissatisfied with the Bankruptcy Court’s decision, the Appellants appealed the Bankruptcy Court’s finding that (i) Section 510(b) concerns priority and treatment of claims, not allowance of claims, and (ii) subordination pursuant to Section 510(b) may be accomplished through a Chapter 11 plan in connection with confirmation, without requiring a separate claim objection. Id. at 3, 5, 6.

The District Court agreed that Bankruptcy Rule 3007 governs objections to claims allowance under Section 502 and the provision has no application where, as here, a debtor leaves the claim’s allowance status untouched and instead invokes Section 510(b)’s mandatory priority provisions through the Plan. Id. at 6. The Court further confirmed that Bankruptcy Rule 7001(h) provides two paths for claim subordination: an adversary proceeding or a Chapter 11 plan. Id.

The District Court rejected the Appellants’ argument that the Plan’s language stating that Class 7 claims would be “cancelled, released, and extinguished” on the effective date effectively disallowed their claims. Id. at 5, 6. In doing so, the Court held that disallowed claims are precluded from receiving distributions, whereas subordinated claims are allowed but are assigned the lowest priority – the practical effect of which may resemble disallowance because in an insolvent estate, neither subordinated claims nor equity receives any recovery. Id. at 5. But as a legal matter, subordination is distinct from claim disallowance. Id. at 6.

Finally, the District Court agreed that Section 510(b) of the Bankruptcy Code is a priority provision, not an allowance provision. Id. The Court held that Bankruptcy Rule 7001(h) expressly provides that subordination of an allowed claim may be accomplished through a Chapter 11 plan without the need for a separate adversary proceeding or claim objection. Id. Once a claim is determined to be governed by Section 510(b), its treatment in the distribution waterfall is mandated by the Bankruptcy Code and may be implemented through a Chapter 11 plan’s distribution scheme. Id. Requiring a debtor to file a separate claim objection under Rule 3007 (a provision that governs the allowance of claims, not their priority) would be redundant and inconsistent with the structure of the Bankruptcy Code. Id. Once a plan calling for claim subordination is filed and objected to, the issue of subordination is already being litigated through the confirmation process, which is precisely what the Bankruptcy Code and Bankruptcy Rules contemplate. Id. at 6, 7. Requiring the Debtors to initiate another contested matter to litigate the same issue through an adversary proceeding would unnecessarily duplicate the adjudication of the dispute. Id. at 6.

Why this case matters

The decision confirms that a Chapter 11 plan is a permissible vehicle for implementing Section 510(b) subordination without the need for a separate claim objection or an adversary proceeding. Id. at 6,7. Based on this decision, plan proponents can seek to subordinate equity-related claims as part of plan confirmation, without the attendant costs and delays of a separate claim objection and adjudication proceedings. This decision also confirms that boilerplate “cancelled, released, and extinguished” language in a plan does not transform a claim subordination provision into claims disallowance.

For practitioners advising securities class action plaintiffs in Chapter 11 cases, the decision is a reminder that securities litigation claims can fall squarely within Section 510(b)’s mandatory subordination regime, and that a prepetition settlement in principle or the initial scheduling of a claim as a general unsecured claim may not alter the nature of the underlying claim for subordination purposes.