In Sunz Ins. Co. v. United States Internal Revenue Service (In re Payroll Mgmt., Inc.), No. 22-12336, 2025 U.S. App. LEXIS 426, __ F.4th __ (11th Cir. Jan. 8, 2025), the Eleventh Circuit adjudicated a lien priority dispute over certain funds based on whether the funds constituted the proceeds of a commercial tort claim or a contract claim. In doing so, the Eleventh Circuit found the funds were proceeds of a commercial tort claim and gave important guidance as to what constitutes a commercial tort claim.

Pre-Petition Competing Liens

Pre-petition, an offshore oil rig exploded in the Gulf of Mexico and thousands of individuals and businesses, including the debtor, brought suit to recover economic losses. The lawsuits were consolidated in a multidistrict litigation, a class of economic-loss plaintiffs was certified and the class action was eventually settled. The settlement agreement provided for claimants to submit backup documentation to a claims administrator who would review the claims and determine the claim’s eligibility for payment. 

The debtor submitted the requisite documentation to the claims administration. However, while the debtor was awaiting the claims administrator's decision, its “financial situation deteriorated,” and it “began missing federal tax payments on its employees.”

Thereafter, the debtor sought insurance to operate its business and granted the insurer a security interest “in the assets of [the debtor’s] business . . . includ[ing], . . . all tangible and intangible property which is or may be used in the business . . . ; existing contracts and policies; . . . and proceeds of the above.” 

Approximately a year and a half later, the claims administrator notified the debtor that it was entitled to some, but not all, of its claim. Accordingly, the debtor sought reconsideration of the payment amount as permitted under the settlement agreement.  

While the reconsideration process remained pending, the IRS filed a $23 million federal tax lien notice against the debtor with the Florida Secretary of State.

Post-Petition Litigation Between the Insurer and the IRS 
Concerning Their Competing Liens

Following the commencement of its Chapter 11 case, the debtor settled its claim with the claims administrator, and the claims administrator transmitted the funds. 

The insurer commenced an adversary proceeding, seeking declaratory judgment that it held a perfected first-priority security interest in the funds from the claims administrator. The insurer moved for summary judgment arguing that its security agreement covered the debtor’s contracts, including the proceeds from those contracts. The insurer argued that the debtor’s claim under the settlement agreement constituted a contract when the insurer’s security agreement was signed because, among other things, the debtor had already submitted its claim to the claims administrator.

The IRS disagreed and filed a cross-summary judgment motion contending that it was entitled to the money because its tax lien attached and perfected first. The IRS argued that the debtor’s claim was a commercial tort claim—not a contract claim—and the insurer’s security interest did not attach to the debtor’s commercial tort claim because the insurer’s security agreement did not specifically list the tort claim as required under the Uniform Commercial Code. The IRS further argued that its tax lien automatically attached to the commercial tort claim and perfected once the IRS filed its tax lien notice. 

The Bankruptcy Court and District Court Find that 
the IRS’s Tax Lien Has Priority in the Funds

The bankruptcy court granted summary judgment in the IRS’s favor. The bankruptcy court agreed that the debtor’s claim was a commercial tort claim when the federal tax lien notice was filed because: (i) there was no contractual obligation to pay when the insurer received its security interest; and (ii) a commercial tort claim does not convert into a contract until the tort claim has settled and there is a contractual obligation to pay.  

Thus, the IRS’s federal tax lien attached to the debtor’s commercial tort claim when it “assessed [the debtor]’s unpaid taxes, and the tax lien perfected once the [IRS] filed the federal tax lien notice.” The bankruptcy court easily found that the insurer’s lien did not attach because the security agreement did not adequately describe commercial tort claims as collateral.

On appeal, the district court affirmed the bankruptcy court’s judgment.

The Eleventh Circuit Affirms 

The Eleventh Circuit observed that “the case boils down to whether [the debtor]’s . . . claim was a commercial tort claim under Florida law” when the IRS filed its tax lien notice. If it was, the IRS’s tax lien would have priority because “it perfected . . . and [the insurer] did not have a security interest in [the debtor’s] commercial tort claims.” However, if the claim was a contract claim, then the insurer’s security interest would have priority because it attached and perfected first.   

The Eleventh Circuit observed that, under Florida law, a commercial tort claim converts into a contract when the claim has been “(1) ‘settled’ and (2) ‘reduced to a contractual obligation to pay.’” 

Here, the claim constituted a commercial tort claim. The court found that the claim was not reduced to a contractual obligation to pay when the IRS filed its tax lien because the underlying settlement agreement did not give the debtor “an automatic right to payment.” When the IRS filed its tax lien, the debtor only had a right to have its “claim administered more quickly in the claims review process.” Yet, there was no contractual obligation to pay until the claims review process ended, which occurred post-petition. Thus, the claim was not a contract claim, but rather, a commercial tort claim. Thus, the court found that the IRS had priority over the funds.

Conclusion

Payroll Management serves as a reminder that parties taking a security interest in a debtor’s assets must comply with the different perfection requirements applicable to each type of pledged collateral. While the law is clear that a security agreement must describe a commercial tort claim with particularity, it may be difficult to determine whether a claim constitutes a commercial tort or contract claim in reality. Payroll Management thus helps provide clarity in distinguishing the two while providing a warning about incorrectly perfecting in the pledged collateral.