My Debtor Filed for Bankruptcy – What Should I Do?

by cabadministrator

You’ve just received a notice from the U.S. Bankruptcy Court that one of your debtors has filed for bankruptcy. How should you respond?

The answer depends on the type of bankruptcy that was filed.

Bankruptcy Chapters

Most people are surprised to learn that there are in fact six different bankruptcy types under the U.S. Bankruptcy Code:

  • Chapter 7 Liquidation — for both individuals and businesses
  • Chapter 9 Reorganization — for municipalities
  • Chapter 11 Reorganization — for corporations, partnerships or LLC’s
  • Chapter 12 Reorganization — for family farmers and fishermen
  • Chapter 13 Reorganization — for individuals and sole proprietorships
  • Chapter 15 Cross-Border Insolvency — for foreign companies with U.S. debts

For all of these bankruptcy types, once the petition has been filed, creditors are prohibited from attempting to collect the debt.

By far, the three most common bankruptcy types are Chapter 7, Chapter 11 and Chapter 13. So we’ll focus on these three.

Chapter 7 Liquidation

In a Chapter 7 bankruptcy, the debtor’s financial obligations are essentially wiped clean (with a few exceptions). Chapter 7 is available to both individuals and businesses.

The Notice of Bankruptcy sent to each creditor by the U.S. Bankruptcy Court includes information about a “Meeting of Creditors” (also known as a “341 Meeting,” based on section 341 of the bankruptcy code). The purpose of this meeting in a Chapter 7 is for the bankruptcy trustee to determine if the debtor owns assets which can be liquidated and distributed to creditors.

After the 341 Meeting, all creditors listed in the bankruptcy petition receive a notice from the court, indicating whether the Chapter 7 has been deemed an “asset” or “no asset” case. If the case is determined to be “no asset,” unsecured creditors will not receive any payments.

However, if the case is determined to an “asset” bankruptcy, and you are an unsecured creditor, you must submit a Proof of Claim in order to be included in the distribution of the debtor’s liquidated assets.

Chapter 11 Reorganization

Businesses that want to remain operational but need time to restructure their finances in order to pay their bills can file Chapter 11. Because of its complexity, this type of reorganization is typically used only by corporate entities.

The purpose of the 341 Meeting in a Chapter 11 is different than that of the Chapter 7. During the Chapter 11 meeting, the U.S. Trustee will:

  • Gather information about the debtor’s business plan,
  • Determine the plan’s feasibility,
  • Explain the debtor’s obligations, and
  • If necessary, inspect the debtor’s books.

Every Chapter 11 debtor-business has a 120-day period during which it has an exclusive right to file a reorganization plan with the court. After that, creditors can file competing plans.  

The Creditors’ Committee

Creditors’ committees often play a significant role in Chapter 11 cases. Their primary purpose is to ensure that unsecured creditors — who are often owed smaller sums — are adequately represented in the bankruptcy proceedings. In other words, creditors’ committee members represent the interests of the entire class of unsecured creditors.

The creditors’ committee must approve the debtor’s Chapter 11 reorganization plan before it can be approved by the bankruptcy court. There is no time limit on completing repayment of debt through the plan; however, six months to two years is the standard.

Chapter 11 Proof of Claim?

Creditors in a Chapter 11 do not need to file a Proof of Claim if the amount due listed in the bankruptcy petition is accurate. However, if the claim is listed as disputed, contingent or unliquidated — or if you believe you’re owed more money than the petition indicates — you should file a Proof of Claim for the full amount you believe you are owed. 

Chapter 13 Reorganization

Chapter 13 bankruptcy is another type of reorganization. It applies to both individuals and sole proprietors of businesses and involves a three-to-five-year repayment plan.

As with Chapter 7 and Chapter 11, all creditors listed in a Chapter 13 petition will receive a notice of the bankruptcy case filing, which includes a 341 meeting of creditors date, as well as deadlines for filing claims. With Chapter 13, the purpose of the 341 Meeting is to determine if the debtor’s proposed repayment plan is feasible in the eyes of the trustee.

Part of the Chapter 13 plan includes the proposed amount to be paid to unsecured creditors. This amount will vary, depending on the debtor’s disposable income. However, it cannot be less than what the creditor would have received if the debtor had filed a Chapter 7 bankruptcy that was determined to be an asset case.

What About Secured Debts in Chapter 13?

If you are listed as a creditor in a Chapter 13 bankruptcy and the debt is secured, the debtor has three available treatment options:

  1. He may surrender the property back to you.
  2. If he is not behind on his payments, the debtor may retain the secured property and continue to make regular payments to you “outside” of the Chapter 13 plan, just as he did before filing bankruptcy.
  3. If he is behind on his payments, the debtor may retain the property and pay for it through the monthly Chapter 13 plan payment.

Once the bankruptcy court has approved the Chapter 13 repayment plan, claims will be paid out based on priority. For example, secured debts are paid first, then priority debts (such as taxes and domestic support obligations), and then general unsecured debts. 

CAB has been a leader in bankruptcy recovery since 1954. We leverage our partnerships with major bankruptcy and financial advisory firms to ensure our clients will receive maximum debt recovery.

 


Sources:
Featured Image: Adobe, License Granted
Nolo
Investopedia
U.S. Courts
Lawyers.com

 

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