The opinion offers meaningful guidance on the application of the five-factor equitable test used to evaluate default interest claims and clarifies how courts should weigh each factor, particularly in cases involving insolvent debtors with primarily insider creditors.

Summary

On April 4, 2026, the U.S. Bankruptcy Court for the Southern District of New York (the court) in In re 33 Mako, Case No. 25-11256, addressed the issue of whether an oversecured creditor may recover post-petition default interest under Section 506(b) of the Bankruptcy Code. In this case, a debtor filed a motion to disallow or reduce the secured creditor’s claim for post-petition default interest as well as a late claim. In denying the debtor’s motion, the opinion offers meaningful guidance on the application of the five-factor equitable test used to evaluate default interest claims and clarifies how courts should weigh each factor, particularly in cases involving insolvent debtors with primarily insider creditors.

Background

The debtor, 33 Mako, LLC (the debtor), was a New York limited liability company operating as a single-asset real estate debtor. Its sole asset was a residence located in New York (the property), which was in the process of being sold for approximately $4.32 million. The debtor only had one member, who was the sole managing member, and who also managed a number of insider creditor entities.

In December 2021, the Debtor entered into a loan, secured by a mortgage on the Property, with LendingOne, LLC in the amount of $2.4 million. The loan and mortgage were ultimately acquired by 54 SCL Funding LLC (SCL). Subsequent to the assignment to SCL, the debtor ceased making payments on the loan and, as a consequence, SCL commenced a foreclosure action in 2024. The foreclosure proceeding was stayed in June 2025 when the debtor filed for Chapter 11 bankruptcy.

On March 11, 2026, the court confirmed the debtor’s second amended liquidating plan, which included a sale of the property followed by distributions to creditors. The court approved the sale of the property for approximately $4.32 million. SCL asserted a secured claim of approximately $3.28 million, including roughly $516,000 in post-petition default interest. The sale proceeds were sufficient to pay all non-insider creditors in full, but insider creditors would receive only a partial payment. Specifically, if SCL’s default interest were allowed, the insider class would receive a distribution of only $600,000 on their total $2.3 million in claims.

However, if the default rate interest component was disallowed, the distribution to the insider class would nearly double.

The debtor objected to SCL’s claim for post-petition default interest and a late charge of approximately $29,000. The debtor also objected on a number of other grounds that will not be covered in this article.

Legal Framework

The court began by outlining the burden of proof governing claim objections under Section 502(a). As noted by the court, a properly filed proof of claim constitutes prima facie evidence that the claim is valid. See Fed. R. Bankr. P. 3001(f). To overcome this presumption, an objecting party must produce evidence to counter at least one of the allegations necessary to the claim. If the objector produces evidence at least equal in force to the prima facie case, the burden shifts back to the claimant to prove, by a preponderance of the evidence, that the claim is permitted.

The court noted that Section 506(b) entitles an oversecured creditor to charge interest on its secured claim, plus “any reasonable fees, costs, or charges provided under the agreement.”

However, as the court pointed out, the provision does not specify the interest rate. The court observed that pursuant to Section 506(b), the general rule is that an oversecured creditor is entitled to post-petition interest at the contractual default rate. However, within the U.S. Court of Appeals for the Second Circuit, bankruptcy courts have noted that this general rule can be rebutted and have adopted a five-factor test to determine whether this presumption can be rebutted based upon the following factors: the solvency of the debtor’s estate; whether the contractual default rate is a penalty; whether there has been misconduct by the creditor; whether awarding post-petition interest at the contractual default rate would harm other creditors; and whether allowing such interest would have an adverse effect on the debtor’s fresh start.

The court clarified application of the first factor—solvency—as compared to the remaining four. According to the court, when a debtor is solvent, the presumption in favor of default interest is “very strong, perhaps unrebuttable or close to unrebuttable.” This is because reducing the contractual interest rate would benefit only the debtor’s equity, not its creditors, granting the debtor an unfair windfall. In contrast, when a debtor is insolvent, courts still apply the presumption in favor of default interest but with “a lighter thumb on the scales,” requiring the debtor to show that at least one of the remaining four equitable factors warrants disallowance.

Court’s Reasoning

The court found that the debtor was insolvent because the proceeds from the sale of the property would be insufficient to pay all creditors in full, as insider creditors would not receive the balance of their claims. The court contemplated the fact that only insiders would benefit from disallowance of default interest and how this “might warrant requiring the debtor to make a stronger showing than is usually required in insolvent debtor cases.” However, as stated below, the court held that it did not need to decide this question because the debtor failed to prove that at least one of the remaining four factors justified disallowance.

First, the court held that the contract rate was not a “penalty.” The loan agreement provided for a default interest rate of 16%, which consisted of a 6.99% nondefault rate plus an additional default rate of 9.01%. The court found that this rate was negotiated by “commercially sophisticated parties” represented by counsel, and there was no evidence that the default rate was intended to be a “penalty.” The court further noted that the default rate did not violate New York’s usury laws and that the 9% spread between the nondefault and default rates was “well within the range of rates that courts in [the Second] Circuit have allowed under section 506(b).”

Second, the Court found that the lender did not engage in misconduct. Notably, the court noted that the debtor failed to allege that SCL engaged in any misconduct, and the court itself saw nothing in the record to support such a finding.

Third, the court held that the type of “harm” necessary to justify disallowing the contractual default interest rate was not present. The court clarified that the relevant inquiry for this factor is not merely whether allowing default interest would reduce distributions to other creditors, but whether harm would result beyond the ordinary—such as putting a debtor’s reorganization at risk of failure. The court explained that harm exists in virtually every insolvent debtor case and uneven distribution to creditors was not, in and of itself, enough to support disallowing the contract interest rate.

Lastly, the court held that the final consideration, i.e., whether allowing the contract rate would “impair the debtor’s fresh start,” was not applicable because the debtor had no ongoing business to reorganize and a plan of liquidation had already been confirmed.

Having found that none of the four equitable factors warranted disallowance, the court denied the debtor’s motion to disallow or reduce post-petition default interest. The court separately addressed SCL’s claim for a late charge of approximately $29,000.

Both parties agreed that an oversecured creditor may receive payment of either default interest or late charges, but not both. The court affirmed this principle, holding that “the decisional law is uniform” on this point. Accordingly, because the court allowed SCL’s claim for default rate interest, it disallowed the late charge to prevent a double recovery.

Key Takeaways

The Mako decision offers several important takeaways for bankruptcy practitioners and secured creditors.

The decision reinforces the presumption in favor of awarding post-petition default interest at the contractual rate under Section 506(b), even in cases involving insolvent debtors.

The court’s clarification of the solvency factor as a threshold consideration—determining the strength of the presumption rather than serving as a standalone equitable factor—provides a helpful analytical framework for future cases.

The court’s treatment of the harm-to-creditors factor is particularly instructive. By holding that mere dollar-for-dollar distributional harm is insufficient to overcome the presumption, the court avoided an interpretation that would render the default interest presumption meaningless in cases with an insolvent debtor. Post-Mako oversecured creditors can have greater confidence that their contractual default rates will be enforced.

The decision also suggests that cases in which the only parties harmed by an award of default interest are insiders of the debtor may warrant an even higher burden for the debtor to overcome the presumption. While the court did not formally explore or enforce this heightened standard, its observation signals that courts may be skeptical of claim objections brought primarily for the benefit of insider creditors.

Practitioners should be mindful of the well-settled rule that oversecured creditors may not collect both default interest and late charges simultaneously. Creditors asserting both in their proofs of claim should be prepared to elect between the two, with default interest typically being the more desired recovery.

Finally, the decision underscores the importance of documenting the commercial reasonableness of default interest provisions at the time of loan origination, as the court placed weight on the fact that the parties were both sophisticated parties, represented by able counsel, and agreed to a rate within New York’s usury limits (which the court found to be inapplicable with respect to default rate interest).

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