## Facts

- Architectural Millwork of Virginia, Inc. filed Chapter 11 and operated as debtor-in-possession.
- The debtor entered a written Truck Lease Agreement with Associates Leasing, Inc. covering a 1995 Freightliner truck, financing roughly $38,500.
- The truck agreement was non-cancellable for the term and included a “final adjustment clause” permitting end-of-term return or purchase for about $9,625, tied to projected residual value.
- The debtor entered a separate agreement (later assigned to Associates) for a Komatsu forklift that provided an end-of-term purchase option for $1.00.
- Associates moved to compel the debtor to assume or reject both agreements under 11 U.S.C. § 365 and to make current payments pending that decision.
- The debtor argued both transactions were disguised security interests, not true leases.

## Issues

1. Whether the Freightliner truck agreement was a true lease or a disguised security interest under Virginia’s U.C.C., determining applicability of 11 U.S.C. § 365.
2. Whether the Komatsu forklift agreement was a true lease or a disguised security interest under the same standards, determining applicability of 11 U.S.C. § 365.

## Decision

- The court held the Freightliner truck agreement was a true lease subject to § 365.
- The court held the Komatsu forklift agreement was a disguised security agreement, not a lease, and therefore not governed by § 365.
- The court granted the motion to compel assumption or rejection as to the Freightliner lease.
- The court denied the motion to the extent it sought lease treatment for the forklift transaction; Associates’ rights were those of a secured creditor.

## Legal Principles

- Classification of a transaction as a lease or security interest turns on economic substance under Virginia’s U.C.C., not contractual labels.
- A non-terminable payment obligation combined with an option to acquire title for no or nominal additional consideration indicates a security interest.
- A meaningful residual interest for the lessor and a non-nominal option price reasonably related to expected end-of-term value supports true lease treatment.
- Allocation to the user of obligations such as taxes, insurance, registration, or risk of loss is common in commercial leases and is not determinative of security-interest status.
- In bankruptcy, true leases are subject to § 365 assumption/rejection requirements; secured financings are addressed through secured-claim and collateral rules rather than § 365.

## Conclusion

The court applied Virginia’s economic-realities test to classify two equipment transactions, treating the truck deal as a true lease because the lessor retained a meaningful residual stake, and treating the forklift deal as secured financing because the $1 purchase option made ownership transfer economically certain.


In re Architectural Millwork of Va., Inc., 226 B.R. 551 (Bankr. W.D. Va. 1998)