Chapter 15 Creditor-Debtor Relations and Bankruptcy

1. Chapter 15 Creditor-Debtor Relations and Bankruptcy

2. §1: Laws Assisting Creditors • Liens: • Consensual. • Statutory. • Judicial. • Other Remedies: composition agreements, ABC’s. • Suretyship.

3. Liens [1] • Consensual Liens. • Personal property as collateral (UCC Art. 9 UCC Secured Transactions). • Real property as collateral (Mortgage). • Mechanic’s Lien: Non-possessory lien on real estate for labor/services.

4. Liens [2] • Artisans’ Lien: Possessory lien on personal property for labor done to property. • Innkeeper’s Lien: Possessory lien on baggage for unpaid hotel charges. • Judicial Liens: Court-ordered seizure/sale of property.

5. Garnishment • Permits a creditor to collect a debt by seizing property of the debtor held by a third party (garnishee). • Proceedings governed by state law (Texas does not permit garnishment except for child support). • Laws Limit Amount of Wages. • Case 15.1:Shanks v. Lowe (2001).

6. Mortgage Foreclosure [1] • Mortgagor (Debtor-Borrower). • Mortgagee (Creditor-Lender). • Debtor Defaults: Foreclosure - go through court to have sheriff seize, advertise, and sell property.

7. Mortgage Foreclosure [2] • Money goes to expenses of sale, creditors in descending order of priority, then debtor if any left. • If there is still money owed to creditor after foreclosure there is a deficiency, and the debtor is still liable for this. • Equity of redemption within statutory period of redemption by the debtor.

8. §2: Suretyship and Guaranty Promise by a third person (Surety/ Guarantor) to pay the Creditor a debt owed by Debtor in the event the Debtor does not pay. Principal Debtor Creditor Surety / Guarantor

9. Suretyship • Express contract between the surety and the creditor. • Creditor can demand payment from surety at any time after debt is due. • Creditor need not exhaust all legal remedies against the debtor before holding the surety responsible.

10. Guaranty • Secondarily liable, debtor must default, creditor has attempted to collect from the debtor. • Statute of Frauds requires guaranty to be in writing. • Suretyship vs. Guaranty. • Surety is primarily liable for debtor’s obligation. • Guarantor is secondarily liable. • Case 15.2: JSV, Inc. v. Hene Meat Co., Inc. (2003).

11. Defenses of Surety & Guarantor • Surety can use any of the Debtor’s defenses EXCEPT incapacity, bankruptcy, or statute of limitations. • Surety can use his own defenses, EXCEPT fraud between Debtor and Surety that is unknown by creditor.

12. Defenses of Surety & Guarantor • Material contract modification between Debtor and Creditor will release a gratuitous surety and a compensated surety to the extent he suffers a loss. • Surrender or impairment of the Debtor’s collateral releases surety to the extent he is damaged. • Release of a co-surety releases surety to the extent he is damaged.

13. Rights of Surety & Guarantor • Right of Subrogation. • Right of Reimbursement. • Right of Contribution from Co-sureties. • Sureties in equal amounts. • Sureties in equal amounts, one or more co-sureties missing or insolvent.

14. §3: Protection for Debtors • Exemptions (Federal and State). • Homestead. • Personal property. • Holder in Due Course does not work against consumers. • Truth-in-Lending Act for consumers. • Federal Trade Commission rule.

15. §4: Bankruptcy and Reorganization • Article I, Section 8 of the U.S. Constitution. Federal jurisdiction. • Secured vs. Unsecured Creditors. • Secured: holds a security interest in property that serves as collateral for debt. • Unsecured does not have a security interest in collateral.

16. Types of Bankruptcy Relief • Bankruptcy code has 8 chapters. • 1,3, 5 - general definitional provisions and provisions covering administration, creditors, debtor and estate. • Chapter 7 - liquidation proceedings. • Chapter 9 - adjustment of debts of a municipality.

17. Types of Bankruptcy Relief • Chapter 11 – reorganizations. • Chapter 12 - adjustment of debts of family farmers with regular incomes. • Chapter 13 - adjustment of debts of individuals with regular incomes.

18. §5: Chapter 7 Liquidation • Chapter 7: Ordinary or straight bankruptcy. All assets are turned over to a trustee. • Trustee sells nonexempt property and distributes the proceeds to the creditors. Remaining debts are discharged.

19. Liquidation • Available for any person, individual, corporation, partnership. • Railroads, insurance companies, banks, savings and loan and investment companies licensed by the SBA, and credit unions cannot be debtors.

20. Filing the Petition • Straight bankruptcy is commenced by the filing of a voluntary or involuntary petition in bankruptcy with the bankruptcy court. • Voluntary vs. Involuntary bankruptcy.

21. Voluntary Bankruptcy • Petitioner must understand there are other chapters available. • Debtor does not have to be insolvent. • List secured and unsecured creditors and addresses and amount of money owed. List of all property owned including property claimed; current income and expenses. • Swear to these and sign. Federal crime to misrepresent.

22. Voluntary Bankruptcy • Court issues order of relief. • Clerk of court gives trustee and Creditors mailed notice of the order within 20 days. • Court will deny if “substantial abuse” of Chapter 7. • Case 15.3: In Re Lamanna (1998).

23. Involuntary Bankruptcy • Creditors force Debtor into bankruptcy proceedings. (Not against a farmer, charitable institution). • If there are 12 or more creditors, need three or more with unsecured claims totaling at least $12,300 to join in petition.

24. Involuntary Bankruptcy • If there are less than 12 creditors, one or more having a claim of $12,300 may file. • Court will order relief if Debtor is generally not paying debts as they come due.

25. Involuntary Bankruptcy • Court will order relief if: • A general receiver, assignee, or custodian took possession of, or was appointed to take charge of, substantially all of debtor’s property within 120 days before filing. • Penalties for frivolous petitions against debtors, including Punitive damages.

26. Automatic Stay • Either voluntary or involuntary. • Creditors cannot commence or continue most legal actions. • Damages for violation of stay. • Creditors can get “adequate protection.” • Periodic or one time cash payments or indubitable equivalent.

27. Property of the Estate • Debtor’s Estate includes: • All Debtor’s legal and equitable interests in property presently held, including community property; • Property transferred in a “voidable” transaction; and • Property which Debtor becomes entitled within 180 days after filing.

28. Property of the Estate • Estate includes (cont’d): • Proceeds and profits from the property of the estate. • After-acquired property such as inheritances, property settlements, and life insurance death proceeds.

29. Creditor’s Meeting and Claims • Ten-thirty days after filing, Court calls meeting of creditors. Debtor is examined under oath about his debts and assets. • Within 90 days, Creditors must file “proof of claim” with court clerk. • Leases cannot be for more than one year.

30. Creditor’s Meeting and Claims • Allowed unless disputed. • If claim is disputed or unliquidated, court will decide value. • It is a crime to file false claim. • Employment contracts and real estate.

31. Exemptions • See list in text, p. 368. • HOMESTEAD Exemption. • States may pass law requiring Debtor use state exemptions. • In some states, Debtor may choose state or federal exemptions.

32. The Trustee • Court-appointed until first meeting of creditors. • Creditors elect permanent trustee • Administers estate. • Collects proceeds, liquidates assets and pay Creditors in order of priority.

33. Trustee’s Powers • Trustee has rights to get Debtor’s property back from those Creditors that he can defeat by asserting the rights of: • Debtor against the creditors. • Lien creditors against the creditors. • Bona fide purchaser against the creditors. • Trustee still loses to the pmsi creditor who perfects within his “magic” 10-day period.

34. Voidable Rights Trustee can stand in shoes of debtor and assert any lack of capacity or lack of assent.

35. Preferences • A Debtor is not permitted to transfer property or make a payment that favors—or gives a preference to—one creditor over another. • For a Trustee to recover preferential payment, Debtor must be insolvent and transferred property for pre-existing debt within previous 90 days.

36. Preferences • Trustee can use preferential payment to pay a real preexisting debt, not for current consideration. • Creditor gets more than he would in a Chapter 7. • Consumer can transfer up to $600 without constituting a preference.

37. Liens on Debtor’s Property • Trustee can avoid statutory liens that became effective when bankruptcy petition filed, or when debtor became insolvent. • Can avoid liens which were unperfected on date of bankruptcy.

38. Fraudulent Transfers • Trustee may avoid fraudulent transfers made within one year of filing of petition. • Trustee may proceed under state law for fraud with a 3 year statute of limitations.

39. Distribution of Property • If Secured property: • Consumer debtors. • Have 30 days from filing petition or before first meeting of creditors. • Debtor must tell what she intends to do with collateral-- keep or surrender. • Trustee must enforce within 45 days. • If surrenders: creditor can keep or sell. • If creditor keeps = full satisfaction of debt. • If creditor sells = can use extra for costs, or can become unsecured creditor for deficiency.

40. Distribution of Property • Unsecured property • Paid according to bankruptcy law. • All of one class must be paid before moving to next. • Creditor within last class receive proportionately if not enough. • See Priority List in text. • All creditors paid, trustee gives extra back to debtor.

41. Discharge • Exemptions. • Case 15.4:In Re Savage (2004). • Objections to Discharge. • Effect of Discharge. • Revocation of Discharge. • Reaffirmation of a Debt.

42. Exceptions to Discharge • Claims for back taxes. • Claims for amounts borrowed by Debtor to pay federal taxes. • Claims against property/money obtained by Debtor under false pretenses. • Claims by Creditors who did not know about bankruptcy.

43. Reaffirmation of Debt • Debtor may wish to pay a debt notwithstanding the debt could be discharged in bankruptcy. • Agreement is filed with court. • Debtor can rescind agreement at any time.

44. § 6: Chapter 11 Reorganization • Chapter 11—Corporations. Debtor and Creditors formulate a plan under which the Debtor pays a portion of its debts and is discharged of the rest. • Same debtors as are eligible under Chapter 7.

45. Reorganizations • “Fast tract” Chapter 11 for small business debtors whose liabilities do no exceed $2 million and who do not own or manage real estate. • “Workouts”.

46. Reorganizations • Debtor in Possession (DIP). • Trustee may be appointed. • DIP has same powers as trustee in Chapter 7. • Strong-arm clause. • Collective Bargaining Agreements. • Creditors Committees.

47. The Reorganization Plan • Filing the Plan. • Within 120 days after date relief order. • Plan must be equitable. • Acceptance and Confirmation of the Plan. • Discharge.

48. §7: Bankruptcy Relief under Chapter 13 • Chapter 13: Individuals’ Repayment Plans. For individuals with regular income who owe fixed unsecured debts of <$307,675 or fixed secured debts of <$922,975. • Not for partnerships, corporations. • Confirmation of the Plan. • Objections to the Plan (or Modifications).

49. Chapter 13—Discharge • 2005 Bankruptcy Reform Act deleted many of the “super discharge” provisions. • Excludes: • Fraudulent Tax Obligations. • Criminal Fines and Restitution. • Fraud by a Fiduciary. • Restitution for Willfully Causing Personal Injury or Death.