WaMu’s Bankruptcy Exit Rejected by Judge Over Lawsuit Releases

A federal judge rejected Washington Mutual Inc.’s bid to end its bankruptcy and pay creditors more than $7 billion, saying the proposal guaranteed protection from lawsuits for too many parties.

U.S. Bankruptcy Court Judge Mary F. Walrath in Wilmington, Delaware, said she agrees with the central feature of the plan, a settlement that would end bankruptcy-related legal disputes among WaMu, JPMorgan Chase & Co. and the Federal Deposit Insurance Corp. about who was responsible for the largest U.S. bank to fail.

Evan Flaschen, an attorney for bondholders who had initially opposed the plan, predicted that WaMu would be able to easily change the proposal and win Walrath’s approval.

“These are not fatal flaws in the plan,” Flaschen said in a phone interview yesterday. “These are areas that needed to be corrected and I assume WMI will correct them.”

WaMu filed for bankruptcy on Sept. 26, 2008, the day after its banking unit was taken over by regulators and sold to New York-based JPMorgan for $1.9 billion. Washington Mutual Bank was the biggest bank to fail in U.S. history, with more than 2,200 branches and $188 billion in deposits.

Shareholders claim JPMorgan didn’t pay enough for the bank and that federal regulators were too quick to close it. JPMorgan, the second-largest U.S. bank by assets, and federal regulators denied those claims in court papers.

Undeserved Releases

Walrath said in the decision that provisions in the settlement called releases, which protect the recipient from being sued, were given to some parties that didn’t deserve them. She said the plan couldn’t be approved because it released from all legal liability the official creditors committee, and trustees involved in the case.

“Although the court found the global settlement to be reasonable, it did not find the releases to be reasonable,” Walrath wrote in yesterday’s ruling.

WaMu said in an e-mailed statement that it plans to modify its plan in order to win approval from Walrath.

“WMI believes that the expeditious distribution of funds to holders of allowed claims is of paramount importance and intends to modify the plan consistent with the court’s suggestions and will seek confirmation as soon as practicable,” the company said.

Joseph Evangelisti, a spokesman for JPMorgan, declined to comment.

Bondholder Opposition

Under the settlement, WaMu, JPMorgan and the FDIC agreed to split $10 billion in cash and tax refunds. WaMu said it would bring as much as $6.8 billion to creditors.

Bondholders of WaMu’s former bank initially opposed the plan, arguing it gave WaMu a bigger slice of the tax refunds than the holding company deserved, according to court records. Those bank bondholders lost about $1 billion because the FDIC agreed to split the tax refunds with WaMu instead of fighting to keep the money for creditors of the defunct bank, Flaschen said.

The case is In re Washington Mutual Inc., 08-12229, U.S. Bankruptcy Court, District of Delaware (Wilmington).

To contact the reporter on this story: Steven Church in Wilmington, Delaware, at schurch@bloomberg.net; Michael Bathon in Wilmington, Delaware, at mbathon@bloomberg.net.

To contact the editor responsible for this story: David E. Rovella at drovella@bloomberg.net.

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