Bankruptcy Outline
Czar
Spring 2007
PART I: CONSUMER BANKRUPTCY
· Two Models of Bankruptcy
o Liquidation (aka Straight Bankruptcy/ Chapter VII Bankruptcy)
§ Bankruptcy debtor turns over all non-exempt assets to the bankruptcy trustee (BT) who then sells or liquidates those assets, gathers the money into hotchpot and then distributes that money to the debtor’s creditors.
§ In exchange for the turnover of assets, the debtor receives a discharge for his pre-bankruptcy debts.
o Re-Organization
§ 3-4 chapters of the BR Code follow the re-organization model
· Primarily Chapter 11 and 13
§ The debtor keeps his assets (ex - big screen TV or Delta Airlines jet). Additionally, the debtor receives a discharge.
§ In exchange, the debtor must submit a plan of reorganization under which they will operate for the next 3-5-10 years. The plan must provide a stream of payments to creditors such that those creditors are receiving at least what they would have received had the debtor liquidated today (i.e. under CH 7).
· Introductory Material
o The Goals and Policies of Bankruptcy
§ Bankruptcy is remedial in nature
· Often, bankruptcy relief is sought only after the debtor’s economic affairs have deteriorated to the point of collapse.
· Therefore, bankruptcy’s purpose is to manage financial distress and to do the best job possible of preserving what can be saved. Not necessarily to give creditors their full entitlement.
§ Protection of Detor and Creditor Interests
· The idea of bankruptcy serves two purposes: creditor protection and debtor relief.
· Helps creditors by providing an evenhanded and controlled environment for the settlement of the debtor’s affairs and distribution of his assets.
· Helps debtors by providing a haven and affording relief from the pressure of financial failure.
§ Collective and Evenhanded Treatment of Creditors
· Bankruptcy is handled by an uninterested administrator.
· Though most creditors are not paid in full, they share equitably in the fund.
§ Preservation of the Estate
· The BT is given substantial powers to investigate the debtor’s affairs, to recover dispositions of property in fraud of creditors, to reveal hidden assets, and to resolve the affairs of the debtor in a way that best enhances the value of he estate.
§ The Debtor’s “Fresh Start”
· Goal of long-term rehabilitation.
· Provided that the debtor has complied with the Code’s requirements and has surrendered executable assets of sufficient future income for distribution to creditors, the debtor is entitled to a new beginning, unburdened by the unpaid balance of pre-bankruptcy debts.
§ Minimal Interference with Non-Bankruptcy Rights
· Generally, the treatment of such rights under the Code is intended to affect them only so much as necessary to further the aims of bankruptcy.
§ Efficient Administration
§ Preference for Reorganization and Debt Adjustment
o There are two types of creditors à secured and unsecured.
§ A secured creditor is a creditor that in exchange for lending money to a debtor has received some type of pledge (i.e. collateral) to secure repayment.
· Secured creditors can sometimes be secured and unsecured. How? If you are a secured creditor and the security interest you have is less than the total amount the debtor owes you, you have both a secured and unsecured claim. A secured creditor is a secured creditor only to the amount of the debt or to the amount of the collateral, whichever is lower.
§ An unsecured creditor is a creditor that has received no security for his debts other than the credit worthiness of the creditor they lent money to.
· Ex -Credit Cards.
· Because unsecured creditors do not have a pledge of property to secure their debt, they cannot walk up and take someone’s property. That would be conversion. How do you collect debts when you are an unsecured creditor?
o First, obtain a judgment in court.
o Enroll the judgment by filing it in the courthouse of the county where the debtor owns property in the county in which the property is located. This has two effects:
§ With regard to real property, it gives UC an automatic lien on all property the debtor owns in that jurisdiction.
§ With regard to personal property, the clerk must issue a writ that must be levied by the sheriff.
o The Federal Nature of Bankruptcy Law
§ Bankruptcy law is federal law because Congress has the power to pass uniform statutes of bankruptcy.
§ Article I federal courts
§ The order of reference is a standing order in all district courts which automatically refers all bankruptcy cases to the bankruptcy courts. Practically, you file your case at the bankruptcy clerk’s office.
o Getting Started: Deciding to File
§ Debtor fills out series of documents and forms. The most important document is the Bankruptcy Petition, which includes a number of schedules.
§ Debtor must pay a filing fee ($220), which can be waived upon proof that the debtor absolutely cannot pay.
§ Duty of Reasonableness - Lawyers assisting in the filing of the bankruptcy petition are subject to a duty of reasonableness, meaning they have a responsibility to look into client’s records for accuracy. This means that lawyers have a responsibility to look.
o Participants in Bankruptcy
§ Bankruptcy Court
· Article I courts/ “arm/unit” of the district courts
· Presided over by bankruptcy judge - no life tenure/ 14 year terms
§ The Trustee
· REQUIRED IN ALL BR CASES EXCEPT CH 11
· Impartial administrator whose role encompasses not only management of the estate but extensive powers to investigate the debtor’s affairs, to enforce the rights of the estate, and to participate in litigation involving the estate’s interests.
· Owes a fiduciary duty to maximize the value of the estate for the benefit of all of the debtor’s creditors.
· Usually an attorney
· Entitle to some % of assets administered.
· Creditors can elect trustee.
· At a minimum the trustee has to conduct §341 meeting (meeting of creditors with debtors which gives creditors the opportunity to depose the debt)
§ The US Trustee
· Appointed by US Attorney General / different US Trustee regions
· Administrative Responsibilities
· Right to appear on any bankruptcy case on any matter.
§ The Debtor
· More passive role in CH 7; more active role in CH 13
§ Creditors
· A creditor is defined in §101 to include any entity who has a provable claim against the estate. In order to establish a claim, the creditor must fill out a proof of claim form and file it with the bankruptcy court.
· The Estate/ §541
o In bankruptcy, remember that we’re gathering all the debtor’s assets, selling them, and distributing them to creditors. Thus, the natural question is: what assets of the debtor are subject to being gathered and sold?
o At the moment the bankruptcy petition is filed, an estate is created by operation of law.
o Bankruptcy is, in a sense, a financial death which creates an estate consisting of all the interests in property owned by the pre-bankrupt debtor. The estate is a new legal entity separate from the debtor.
o §541: §541(a) defines what is included in the estate and §§541(b) and (d) make specific exclusions from the estate.
§ §541(a) - The bankruptcy estate is defined as all (legal or equitable) property interests of the debtor as of the filing of the bankruptcy petition.
· §541(a) is intended to capture ALL property of the debtor. It is meant to include not only tangible property (i.e. living room couch), but also intangible property (i.e. bank accounts), contingent property interests (i.e. ability to file a lawsuit), and property in the hands of others (§542 - requires anyone holding property of the bankruptcy estate to turn it over to the trustee) .
· Other Examples -
o 1999 Taurus still subject to PMSI - yes. Legal interest to possess the car. Because §542 requires anyone holding property of the estate at the time of bankruptcy to turn it over, even if the repo man had repossessed the car the day before debtor filed bankruptcy, the Taurus is property of the estate.
o 25 shares of Corporation - yes.
o Oil well - yes.
o Property Acquired After the Filing of the Petition
§ The most important exception is for “services performed by an individual debtor AFTER the commencement of the case.”
· Every penny the debtor earns after commencement of the case is kept by the debtor.
· As such, the debtor always wants to claim the earnings were post-petition, while the trustee, who has a fiduciary duty to the unsecured creditors to maximize the estate, always claims that everything is pre-petition.
§ For the typical consumer, this provision means that wages, commissions, and the like earned after the bankruptcy petition is filed are not property of the estate and do not have to be surrendered to their creditors.
o “Property of the Estate” Disputes Fall into 3 Categories:
§ Legal interests that are not enforceable at the date of bankruptcy but may be enforceable at a future time.
· Question: Whether they are sufficiently matured and certain to be included in the estate?
· Sharp v. Dery - Employee Bonuses - BT argues the debtor had a legal interest in the bonus; debtor argues that he didn’t have a legal interest in the bonus. Look past the label on the property right. Examine the terms to determine whether the debtor had a legal interest/ right in the bonus as of the date of filing.
o Test: Could the debtor have filed a lawsuit over the bonus on December 21? Look past the label on the property right. If the court is under no obligation to pay the bonus and/or the bonus is contingent, it is likely that the court will hold that the bonus is not part of the estate.
§ Certain entitlements, such as permits or licenses that are nontransferable, which may or may not be property.
· Ex - Liquor Licenses, etc.
· Most courts will hold that liquor licenses are property of the estate because when a person buys a bar, the only thing of “real value” is the liquor license. Thus, if you own a bar and file for bankruptcy, the liquor license is property of the estate and the trustee can market the bar with the liquor license.
· Examples of other licenses held to be property of the estate: brother license (In re Burgess), FCC license, airport landing slots, sales tax licenses, trucking certificates, taxi cab medallions.
· But, the courts are divided over:
o Gambling License? Czar things there is a lot doubt that the result would be the same because the legislature has done everything possible to say these licenses are not transferable.
o Sporting Tickets? Bankruptcy courts are evenly divided on the issue.
· See if you can analogize with liquor licenses!!
§ Restrictions on transferability imposed by contract or law
· §541(c) - A non-alienable provision is a provision in a K which says the debtor will not transfer property under any circumstances. Most of these types of laws that restrict the owner’s ability to transfer property ARE NOT enforceable in bankruptcy because the debtor’s property is transferred to the trustee.
· Exception - - §541(c)(2) - Retirement Accounts - Exceptions to unenforceability restrictions on transferability for retirement accounts.
o “Spendthrift” Trust Provision - This provision enables debtors to keep their retirement accounts out of bankruptcy estates. Basically says that when you put your money into a trust which protects you from getting a lot of money and spending it (i.e. spendthrift trust), if debtor files bankruptcy, the money does not become part of the estate.
o ERISA - ERISA qualified plans are beyond the reach of creditors and outside the reach of the bankruptcy estate.
o In 2005 Amendments, Congress (as upheld by SC in Rousey v. Jackoway) said most types of IRA’s are exempt from property of the estate.
o Abandonment of Property by the Trustee
§ Any property of the estate that the trustee considers of no value or no benefit to the estate may be abandoned or given back to the debtor by the trustee. (Ex - Pets)
§ The trustee’s abandonment of burdensome property is intended to benefit the estate by disposing of property that will drain the estate’s resources.
§ Under §544(c), any property that, at the close of the estate, was included in the debtor’s schedule but was not administered in the estate will be abandoned to the debtor.
GENERAL RULE: In bankruptcy, secured creditors are going to get their collateral--either their collateral or the value of their collateral in cash. Filing bankruptcy is NOT a way to get out of your secured debt. Rather, the bankruptcy discharge lets the debtor off the hook for their unsecured debt. The secured creditor is (at least theoretically) fully protected.
· The Automatic Stay
o §362(a) - Except as otherwise provided, the filling of a bankruptcy petition operates as a stay of---
§ (1) the commencement or continuation of any other action against the debtor;
§ (2) The enforcement, against the debtor or against property of the estate, or a judgment obtained before commencement of the case;
§ (3) Any act to obtain possession of property of the estate or property from the estate or to exercise control over property of the estate;
§ (4) Any act to create, perfect, or enforce any lien against property of the estate or to the extent that such a lien secures a claim that arose before the commencement of the case;
§ (5) Any act to collect, assess, or recover a claim against a debtor that arose before the case.
o Filing a bankruptcy petition triggers an automatic stay that prohibits any creditor’s attempts to collect from the debtor or the debtor’s property. It is an injunction that arises by operation of law upon the filing of a bankruptcy case, regardless of knowledge or notice. It stays any action by creditors to obtain, enforce, or collect on a pre-petition debt. It also prevents secured creditors from exercising self-help remedies. ALL COLLECTION SHOULD STOP!!