Trustee Commissions Exclude Surplus Paid to a “Stand-In” Debtor Under § 726(a)(6)

Case: Henderson v. US Trustee (In the Matter of VCR I, L.L.C.)  |  Court: U.S. Court of Appeals for the Fifth Circuit  |  Date: March 27, 2026 (per curiam; not designated for publication)

1. Introduction

This appeal arose from a Chapter 7 liquidation of VCR I, L.L.C. after the case was converted from Chapter 11. The Chapter 7 trustee, Derek A. Henderson, liquidated estate assets (notably Mississippi real property sold for about $6.8 million) and ultimately prepared a final report seeking statutory compensation under 11 U.S.C. § 326(a) calculated on total disbursements.

A family ownership dispute produced an Agreed Judgment stipulating that LULU I, LLC held 100% of VCR’s ownership interest and was entitled to receive any distribution the trustee made to the holder of that equity interest. After allowed creditor claims were paid, surplus funds remained. Because VCR had been dissolved by the time surplus distribution was due, the trustee disbursed the surplus to LULU under the Agreed Judgment and a Settlement Order.

The U.S. Trustee objected to the trustee taking a commission on the surplus payment to LULU, arguing the payment was functionally a § 726(a)(6) distribution “to the debtor,” which § 326(a) excludes from the compensation base. The bankruptcy court sustained the objection; the district court affirmed; the Fifth Circuit affirmed again.

2. Summary of the Opinion

The Fifth Circuit held that although LULU was not the “debtor” in the definitional sense, it was the “functional and practical equivalent of the debtor” for the limited purpose of receiving surplus funds that, under 11 U.S.C. § 726(a)(6), must be distributed “to the debtor.” Because trustee compensation under 11 U.S.C. § 326(a) is calculated on “moneys disbursed ... to parties in interest, excluding the debtor,” the trustee could not include the LULU surplus payment in the commission base.

Judge Haynes dissented, reasoning that § 326(a) excludes payments to “THE debtor” only, and LULU is not the debtor; therefore, the trustee should be permitted to earn a percentage fee on the payment to LULU.

3. Analysis

3.1. Precedents Cited

  • In re ASARCO, L.L.C., 650 F.3d 593 (5th Cir. 2011)
    The court used ASARCO for the appellate standard of review in bankruptcy appeals: legal conclusions are reviewed de novo and factual findings for clear error. This framing mattered because the key issue— how to treat LULU under §§ 326 and 726—was primarily a question of statutory interpretation.
  • In re Reed, 405 F.3d 338 (5th Cir. 2005)
    Reed supplied the Fifth Circuit’s articulation that, after the priority payments are made, any “surplus” is distributed “to the debtor” under § 726(a)(6). The opinion leveraged Reed to characterize the surplus payment as belonging to the debtor-category rather than to a creditor-category—thereby triggering the § 326(a) exclusion.
  • Czyzewski v. Jevic Holding Corp., 580 U.S. 451 (2017)
    Jevic was cited for the principle that Chapter 7 distributions must follow the Code’s statutory priority order. That principle supported the court’s view that—once § 726(a)(1)-(5) is satisfied—what remains is statutorily earmarked for § 726(a)(6) (“to the debtor”), leaving little room to recharacterize the recipient category as a fee-generating “party in interest” distribution for commission purposes.
  • City of Chicago v. Fulton, 592 U.S. 154 (2021)
    The court invoked Fulton for a method of resolving ambiguity: interpret disputed language in context with related statutory provisions. Here, the court assumed arguendo that “parties in interest” in § 326(a) could be ambiguous, then read it alongside § 726(a) to conclude that the relevant “parties” are those to whom the trustee is mandated to disburse under the distribution scheme: claimholders and the debtor. That contextual approach reduced the force of the trustee’s argument that LULU’s technical status as a “party in interest” should control.
  • In re JFK Cap. Holdings, LLC, 880 F.3d 747 (5th Cir. 2018)
    The trustee cited JFK Cap. Holdings to argue that trustee compensation is “presumptively reasonable” and reduced only in extraordinary circumstances. The panel distinguished that line of reasoning: it characterized this case as enforcing the statutory boundary in § 326(a) (no commission on distributions “excluding the debtor”), not as imposing an extra-statutory reduction.
  • In re SI Restructuring, Inc., 532 F.3d 355 (5th Cir. 2008)
    This precedent was used to summarize equitable subordination principles under 11 U.S.C. § 510(c). The panel cited it while rejecting the trustee’s attempt to situate LULU’s interest within § 510 as an exception to the § 726 scheme: the court reasoned that subordination doctrine presupposes a “claim” capable of being subordinated.
  • Carrieri v. Jobs.com Inc., 393 F.3d 508 (5th Cir. 2004)
    Carrieri was pivotal to the court’s rejection of the “LULU has a claim” theory. It was cited for the proposition that “claims” do not include a right to payment based on an equity security. That supported the conclusion that LULU, as an equity security holder, did not have a “claim” to subordinate under § 510, nor could it be treated as a creditor under the Code’s definitions.

3.2. Legal Reasoning

The court’s reasoning proceeds in three interlocking steps: (1) classify LULU’s position in the Code’s distribution framework, (2) determine whether the LULU payment is commissionable under § 326(a), and (3) reject alternative theories that would bring the payment back into the commission base.

(a) Distribution taxonomy under § 726 and the “missing” equity-holder category.

The panel accepted that LULU is an “equity security holder” (using the definitional provisions in 11 U.S.C. § 101(16)-(17)). It then emphasized a structural point: § 726(a) enumerates payments to “claims” (and interest on claims) in (a)(1)–(5), and then directs any residual surplus in (a)(6) “to the debtor.” The statute does not create a separate “equity holder” distribution rung. As a result, once creditor distributions were complete, the surplus had only one statutory destination—VCR as “the debtor.”

(b) Why LULU could not be treated as a creditor/claimholder.

The panel held LULU could not be a creditor because its asserted right to payment arose from an Agreed Judgment entered well after the “order for relief” (invoking the temporal limitation in 11 U.S.C. § 101(10)(A)). It also noted that the trustee conceded LULU’s only connection to the case was its ownership interest. That foreclosed recharacterizing the payout as satisfaction of an “allowed unsecured claim” under § 726(a)(2)-(3) or any other claim-based subsection.

(c) The “functional debtor” move: LULU as stand-in under § 726(a)(6).

The court’s central doctrinal move was to treat LULU as the “functional and practical equivalent of the debtor” where the debtor entity had been dissolved and where orders in the case directed that LULU receive the final distribution that otherwise would flow to the debtor. On that framing, the LULU payment was not a new, freestanding distribution category; it was simply the § 726(a)(6) debtor-surplus distribution executed through a designated recipient. Once so classified, the commission question followed: § 326(a) excludes payments to the debtor from the commission base, so the stand-in debtor payment is likewise excluded.

(d) “Parties in interest” in § 326(a) read through § 726(a).

The trustee’s textual argument was that LULU is a “party in interest,” and § 326(a) allows compensation “upon all moneys disbursed” to “parties in interest” other than the debtor. The panel assumed ambiguity and resolved it contextually: because § 726(a) mandates disbursements to claimholders and then to the debtor, “parties in interest” in § 326(a) is best read to refer to those mandated recipients. This interpretive move prevents an end-run around the debtor exclusion by routing debtor-surplus through a debtor’s successor or designee.

(e) Rejection of § 510 subordination as a workaround.

The trustee attempted to characterize LULU’s stake as arising under § 510 (subordination agreements/equitable subordination), which can affect distribution priorities. The panel rejected this because LULU had no “claim” capable of being subordinated; its right was purely equity-based and derived from the Agreed Judgment. Citing Carrieri v. Jobs.com Inc., the court reiterated that equity-based rights are not “claims” for these purposes.

(f) The dissent’s formalism: “THE debtor” means only VCR.

Judge Haynes agreed LULU is not the debtor and read § 326(a) strictly: only payments to “THE debtor” are excluded from the fee base. On that view, a payment to LULU—even if economically akin to a debtor surplus—remains a payment to a non-debtor entity, so it should be commissionable. The majority implicitly rejected this formalism in favor of a functional approach that prevents the debtor exclusion from becoming contingent on entity dissolution or post-petition designation mechanics.

3.3. Impact

Although unpublished, the decision is a clear Fifth Circuit signal on trustee compensation disputes involving surplus estates and dissolved debtors: where a distribution is substantively a § 726(a)(6) return of surplus, the trustee cannot convert it into a commission-bearing distribution by paying a debtor’s equity holder or designated recipient “in the debtor’s absence.”

  • Trustee compensation planning: Trustees in surplus Chapter 7 cases should anticipate that surplus amounts routed to equity owners (or successor/affiliate entities) may be treated as non-commissionable if the payment is functionally “to the debtor.”
  • Drafting and settlement dynamics: Parties negotiating agreed judgments or settlement orders that designate recipients for surplus should expect scrutiny of fee consequences; labels (“claim,” “subordinated claim,” “party in interest”) may not control if the substance is a debtor-surplus return.
  • Litigation posture for U.S. Trustees: The opinion supplies a statutory-structure argument—rooted in § 726 and the debtor exclusion of § 326—for objecting to compensation calculated on surplus distributions that are not truly claim payments.
  • Potential fault line (majority vs. dissent): Future litigants may press the dissent’s plain-meaning argument (“THE debtor” only), especially where corporate dissolution, assignment, or successor structures complicate who can practically receive a § 726(a)(6) surplus. The majority’s functional approach, however, aims to preserve the debtor exclusion’s effect despite such structural changes.

4. Complex Concepts Simplified

  • Chapter 7 trustee “commission” (statutory cap): Under 11 U.S.C. § 326(a), trustee compensation is capped by a percentage formula applied to “moneys disbursed ... to parties in interest,” but it expressly excludes the debtor from that base. This case is about what counts as a disbursement “excluding the debtor.”
  • Distribution “waterfall” (priority scheme): § 726(a) is the mandatory order for distributing a Chapter 7 estate: pay priority claims, then unsecured claims, then interest, and only then—if anything remains—pay the “surplus” “to the debtor” under § 726(a)(6).
  • Claim vs. equity: A “claim” is a debt-like right to payment (generally arising by or before the order for relief). An “equity security” is an ownership interest. The Code treats creditors (claims) and owners (equity) differently; owners typically receive value only after creditors are paid in full.
  • “Party in interest”: The phrase can be broad in bankruptcy practice, but the court here narrowed it for § 326(a) by reading it in context with § 726(a), limiting it to the recipients the trustee is required to pay in the statutory waterfall.
  • Equitable subordination / § 510: Subordination changes the payment priority of a claim. The court held LULU had no claim to subordinate; its interest was purely equity-based, so § 510 could not be used to repackage the surplus distribution as a claim distribution.

5. Conclusion

Henderson v. US Trustee establishes (at least for persuasive purposes within the Fifth Circuit) a functional rule: when a Chapter 7 surplus is paid to an entity that is effectively a stand-in for a dissolved debtor—receiving the surplus the debtor would have received under § 726(a)(6)—that payment is treated as a debtor-surplus distribution for trustee compensation purposes, and is therefore excluded from the trustee’s commission base under § 326(a).

The decision underscores a substance-over-form approach to protecting the statutory boundary on trustee fees: the debtor exclusion cannot be avoided by routing debtor surplus through an equity holder or designated recipient, even where court orders direct that routing to facilitate closing the estate.