Equipment Leases in Subchapter V: True Lease vs. Disguised Financing
Melissa Youngman, Esq. represents businesses in Chapter 11 and Subchapter V cases throughout the state of Florida, including before the United States Bankruptcy Court for the Middle District of Florida, including the Orlando, Jacksonville, Tampa, and Fort Myers divisions, with a primary practice footprint in Orange, Seminole, Osceola, Volusia, Lake, and Brevard counties.
Nearly every Central Florida business that files Subchapter V has at least one equipment agreement on its books, a delivery van, a commercial oven, an excavator, an imaging machine, and the paperwork calls it a lease. Whether that label survives a Subchapter V filing is a separate question, and the answer changes how the equipment is treated, what the creditor can demand, and what the debtor has to pay to keep it.
This post explains how courts distinguish a true lease from a disguised financing arrangement under UCC § 1-203, and why that distinction produces two entirely different paths once a Central Florida business files Subchapter V: cure and assume for a true lease, or bifurcate and cram down for a security interest wearing a lease label.
UCC § 1-203 and the Per Se Test for True Leases
Whether an equipment agreement is a lease or a security interest is a question of state law, and Florida has adopted the Uniform Commercial Code's article on leases, including § 1-203, without material variation. Section 1-203(b) sets out a per se test: an agreement labeled a lease is treated as creating a security interest if the lessee's payment obligation runs for the full term and cannot be terminated by the lessee, and at least one additional factor is present. The four disqualifying factors are that the original lease term equals or exceeds the remaining economic life of the equipment, the lessee is bound to renew for the remaining economic life or become the owner, the lessee can renew for the remaining economic life for nominal or no additional consideration, or the lessee can become the owner for nominal or no additional consideration.
Section 1-203(c) works the other direction, listing facts that do not by themselves convert a lease into a security interest. A lease is not recharacterized merely because the payment stream is roughly equal to or exceeds the equipment's fair market value, the lessee bears risk of loss, the lessee pays taxes, insurance, or maintenance, or the lessee holds an option to renew or purchase at a price pegged to reasonably predictable fair market value or fair market rent. A purchase option priced at fair market value, in other words, does not doom a lease. A purchase option priced at one dollar usually does.
Courts applying this test look past the label the equipment vendor's financing arm put on the document. A "lease" for a five-year-old CNC machine with a two-year term and a nominal buyout at the end reads like a loan. A five-year lease on new commercial kitchen equipment with a fair-market-value purchase option, and a lessor that expects the equipment back, reads like a lease.
Why the Characterization Fight Happens Inside the Bankruptcy Case
The characterization question surfaces because Chapter 11, including Subchapter V, treats leases and secured loans under entirely different Code provisions. Section 365 governs executory contracts and unexpired leases. If the equipment agreement is a true lease, § 365 controls, and the debtor's only choices are to assume it, assume and assign it, or reject it, on the original terms, subject to any cure obligation.
If the agreement is actually a security interest, § 365 has no application to it at all. A secured loan is not an executory contract or an unexpired lease no matter what the parties called it. Instead, the creditor holds a claim governed by § 506(a), and the debtor deals with that claim through the plan rather than through an assumption or rejection election.
The stakes in getting the characterization right are real. A true lease that goes unassumed within the case deadlines is deemed rejected, and the equipment typically must be returned. A security interest cannot be walked away from that easily. It can be bifurcated and paid down to the collateral's value over the life of a confirmed plan.
True Lease Treatment: Cure and Assume Under § 365
For an equipment agreement that survives as a true lease, § 365(b)(1) requires the debtor to cure any default, compensate the lessor for actual pecuniary loss from the default, and provide adequate assurance of future performance before assuming the lease. The cure amount is the arrearage as of the petition date, not the full remaining balance. Once assumed, the debtor is bound by the original lease terms for the balance of the term.
Timing matters. Under § 365(d)(2), the debtor may assume or reject a lease of personal property at any time before plan confirmation, though the lessor can move to compel an earlier decision. Rejection of a true lease gives the lessor a claim for damages under § 502(g), treated as a general unsecured claim in most cases, along with the right to repossess the equipment. A rejected lease does not become a secured claim; the equipment goes back, and whatever deficiency remains is unsecured.
For a Subchapter V debtor that needs the equipment to keep operating, cure and assume is usually the straightforward path when the numbers work: pay the arrearage, keep making the contract payments, keep the equipment.
Disguised Financing: Bifurcation Under § 506(a) and Cramdown
When the per se test recharacterizes the agreement as a security interest, the creditor's claim is not a lease claim at all. It is a secured claim subject to § 506(a)(1), which splits the claim into a secured portion equal to the value of the equipment and an unsecured portion for whatever balance exceeds that value. A five-year-old piece of equipment financed at a price that made sense when new, but now worth a fraction of the payoff balance, can leave the creditor significantly undersecured once § 506(a) does its work.
The secured portion then gets paid through the plan under the Subchapter V confirmation standards. A consensual plan under § 1191(a) can restructure the secured claim on terms the creditor accepts. A nonconsensual plan under § 1191(b) still must satisfy § 1129(b)(2)(A) as to that secured claim, meaning the creditor either retains its lien and receives deferred payments totaling at least the value of the collateral with a present-value interest component, or the collateral is sold with the lien attaching to proceeds, or the creditor receives the indubitable equivalent of its claim. The unsecured deficiency created by bifurcation is folded into the general unsecured class and shares in whatever the plan's projected disposable income provisions pay that class under § 1191(c).
This is the cram down the calendar entry for this post refers to, and it is a materially better outcome for a debtor than a true lease rejection, because the equipment stays, the creditor cannot simply repossess for a contract default, and the payment obligation is rewritten to match the collateral's actual value rather than the original financed amount.
Building the Record Before You File
Because the true lease question is fact intensive, a Subchapter V debtor with meaningful equipment obligations should assemble the underlying agreement, any amendments, the payment history, and a current fair market valuation of the equipment before the petition is filed. Counsel needs the actual contract language against the § 1-203 factors, not the label on the cover page, to advise on whether cure-and-assume or bifurcate-and-cram is the likely outcome for each piece of equipment on the balance sheet.
Central Florida Considerations
Equipment-heavy businesses are common across the Middle District of Florida's Orlando division footprint, from construction and landscaping operations in Lake and Volusia counties to medical and dental practices in Winter Park and Maitland that finance imaging and treatment equipment through vendor captive-finance arms. Those captive-finance agreements are frequent candidates for the § 1-203 analysis, because the vendor's finance affiliate often prices the deal as a sale from the outset and simply papers it as a lease for tax or off-balance-sheet reasons. A Central Florida business heading into Subchapter V should not assume the label on an equipment agreement controls its treatment in the case.
Melissa Youngman, Esq. represents businesses in Chapter 11 and Subchapter V cases throughout the Middle District of Florida. For more on how executory contracts and leases are treated in a Subchapter V case, see our cornerstone guide on executory contracts and leases in Subchapter V.
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