Download - Debtor and Creditor 2010
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DEBTOR-CREDITOR OUTLINES
COLLECTION WITHOUT COURTS - NONJUDICIAL COLLECTION METHODS
I. Leveraging
A. Balancing of different interests, for both debtor and creditor
B. Each of the parties try to increase their leverage against the other party
C. Leverage is an important element of a security interest in a borrowers
property
D. Legal process is involved in only a fraction of all debt collections; legal rules
both limit the collection efforts and provide remedies for an unpaid debt, these
rules provide leverage
E. Legal system can provide a valuable leverage for either party even without a
lawsuit
F. Credit reporting as a leverage for creditor (see Fair Credit Reporting Act),
creditors ability to make negative report to the credit reporting agency that
creates leverage in debt collection
G. Rules in FCRA providing for complaint against an incorrect report create de-
leverage for a debtor
II. Restrictions on nonjudicial collection
A. Usury laws
1. Not important today, de-regulation of credit
B. Federal Statutory Control on Nonjudicial Collection
1. Fair Debt Collection Practices Act (FDCPA)
a. application only to debt collectors; debt collectors are third parties collecting a debt
for another
b. act proscribes various actions on debt collection (see Act)
c. Heinz v. Jenkins (attorneys as debt collectors)
(1) the term debt collector in the FDCPA (and the Act itself thus) applies to an
attorney who regularly collects consumer debts, even when the debt collection
activity consists of litigation
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III. State Law Debt Collection
A. Collection of debt through the court system requires several steps
B. First step is establish in court that the debt is owed (get a judgment) - judgment
creditor
1. Judgment creditor remains unsecured creditor unless execution
C. Execution of the judgment -
1. Writ of attachment: orders the sheriff to seize the property of the debtor
(levy it) and sell it, pay proceeds to the creditor
2. Once levy done creditor becomes lien creditor
3. Sheriff auctions and sells the property, apply proceeds to the creditorD. Turnover
1. States often have turnover statues
2. Judgment debtor is ordered to produce/turnover the property under the
threat of contempt
E. Other writs - depending on the state
F. Judgment lien
1. Recording a judgment in the county land records where deeds and
mortgages are filed
2. Encumbering debtors real estate, and in some states even a personal
property
3. Creditor ties up the debtors assets, preventing sale b/c title is clouded
with a judgment lien
4. Dormancy: judgment still exists but cannot be enforced w/o being
revived - curable
5. Statute of limitations expiration: non-curable
G. Federal Debt Collection Procedures Act - procedures for collecting judgments in
favor of federal government
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H. Alimony and child support collection: imprisonment, exception to wage
garnishment limitations
I. Voluntary liens: mortgages etc, giving a security interest in a property
1. In writing
2. For the liens to have effect a notice has to be provided to third persons,
usually by recordation in a government office (or other form depending
on a type of property) - called perfection of the lien
3. Purchase Money Security Interests or Non-PMSIs
4. Security interest in all certain type of property, acquired in the future or
current
5. Easier for consensual lien creditor to seize the collateral - toforeclose/repossess
6. Issues of deficiency - secured creditor becomes unsecured creditor as to
deficiency
J. Statutory liens
1. Landlords lien and mechanics lien
2. Trust funds: debtor is a trustee in property for the creditor
K. Collection in other jurisdiction
1. Full faith and credit clause - each state must recognize judgment from
another state (Uniform Enforcement of Foreign Judgments Act)
2. Enforcing a judgment obtained in federal courts is done locally in a state
where the court sits using local procedures
3. It is not always necessary to obtain recognition of the US judgment in a
foreign country, to enforce it and collect it against assets located in a
foreign country see Gerdes v. Kennamer
(1) Creditor can ask the court to order a turnover of assets located in a
foreign country; to turnover a certificate of ownership
(2) turnover is provided for in a statute, order under a threat of
contempt
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L. Priorities between the creditors
1. First in time, first in right - the first creditor to levy on the piece of
property will have the right to be paid in full before any other creditor
gets anything from the sale
2. State law system provides for no sharing between the creditors, first one
gets all
3. In the priority race between the creditors, perfection is the moment that
matters the most
4. Perfection for judgment creditor means execution, for mortgages and
other secured interests means filing a notice of the interest
5. Unsecured creditor vs unsecured creditora. Unsecured creditor must first get a judgment and then execute or levy on
that judgment to get an interest in a piece of property of the judgment
debtor - levying is perfecting the judgment lien
b. Unsecured creditor who levies first will have the priority (exception
relation back - date when judgment creditor initiated the execution
process by delivering a writ to the sheriff, lien is perfected when the
property is levied upon but relates back on the date when writ delivered
to the sheriff)
6. Unsecured Judgment Creditor vs. Secured Creditor
a. Who perfects first wins - perfection for consensual lien is when recorded
b. Credit Bureau v. Moninger
(1) it is not necessary for the sheriff to remove the property to complete
an effective levy, it is sufficient for the sheriff holding the writ to
assert his dominion over the property
(2) levy before the perfection of the security interest, thus lien creditor
has a priority
(3) there are courts that have a different position on this, take the
possession or appoint a custodian
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b. Excusable neglect for default could be a reason to set aside judgement
6. Restrictions on wage garnishment
a. Consumer Credit Protections Act (CCPA)
(1) minimal protections on wage garnishments - 25% of disposable
earnings
(2) states can have their own acts exceeding these minimal protections
(3) federal law does not establish priority among garnishments, it is
determined by state law
b. Commonwealth Edison v. Denson
(1) CCPA preempts state law which would allow for more garnishment
c. Network Solutions v. Umbro International(1) contractual right to use internet domain is a product of a contract for
services and hence is not subject to garnishment
(2) contract for services is not a liability and is not subject to
garnishment
(3) contractual rights, however, could be subject to garnishment (where
the property is in the form of the contractual right, creditor does not
step in the shoe of the debtor and become a party to the contract but
has the right to hold the garnishee liable for the value of the
contractual right)
IV. Fraudulent Conveyances and Shielding Debtor Assets
A. Twynes case
1. Fraudulent gift - debtor gives a gift to one to avoid the creditor
2. Signs of fraud - donor continued in possession of the gift, made in
secret, made in expectation of writ, trust existed between the parties,
with unusual clauses
3. Good consideration is not sufficient, there has to be bona fide
B. Uniform Fraudulent Transfer Act (UFTA)
1. Adopted in 43 states, not a federal law but a model code
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2. Creditor can set aside a transfer made in exchange for unfairly low
consideration and the time when the debtor was insolvent [Section 5(a)]
3. Creditor can set aside a transfer where debtor is innocent of fraud,
requires that the transfer is injurious to creditors regardless of intent
4. Fraud [Sec 4(a)(1)] and badges of fraud [4(b)]
C. ACLI Govt Securities v. Rhoades
1. Creditor has a burden of proof that debtors transfer is fraudulent, but
where evidence is within the control of the transferee the burden shifts to
the transferee
2. In intrafamilal transfers there is a heavier burden to show fair
consideration3. Lack of consideration for a transfer shows the transfer fraudulent
4. Factors from which fraudulent intent can be inferred:
a. Close relationship among the parties to the transfer
b. Secrecy of sale
c. Inadequacy of consideration
d. Transferors knowledge of the creditors claim and his inability to
satisfy it
D. Leveraged Buyouts LBOs
1. Assets of the corporation being acquired are used to secure the purchase
price paid for those assets; current equity holders are paid in cash,
financier takes a security interest in all of the acquired companys assets
and the acquirers take the equity of the corporation for very little of their
own cash
2. In Re Bayplastics
a. LBO transaction set aside as constructive fraudulent transfer, it rendered
the debtor insolvent, sellers did not act in good faith
b. Action brought by the unsecured creditor existing at the time of the
transaction which holds most of the unsecured debt
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c. Elements of cause of action under UFTA
(1) debtor made a transfer or incurred an obligation
(2) w/o receiving a reasonably equivalent value in exchange
(3) transaction rendered debtor insolvent (or was already insolvent)
(4) transaction is attacked by a pre-transaction creditor
d. LBO could be set aside as a fraudulent transaction under UFTA, not all
LBOs are bad - if the corporation is not rendered insolvent or the cash
flow is sufficient to make the debt payments transaction is OK
3. UFTA 4(a)(2) is available to present and future creditors, while 5(a) is
available only to present creditors
E. Even if a claim is not mature, a creditor can challenge the transactionV. State Collective Remedies
A. Assignment for the benefit of creditors
1. Debtor assigns all nonexempt property to a person, an assignee and
instructs the creditors to deal with assignee - he liquidates the property
and distributes the proceeds pro rata to the creditors
2. Assignment does not discharge the remaining unpaid debt, only bruptcy
B. Composition and Extension
1. Composition - agreement btw the debtor and all creditors that creditors
will accept a stated partial payment in full satisfaction of the debt
2. Extension - more time to debtor to pay the outstanding debt
3. Could be combined
C. Receivership
1. Receiver, appointed by the court becomes the person in legal control of
the property of a debtor with power to manage debtors financial affairs
2. Use in cases when debtor cannot be forced into bankruptcy, such as
church, non profit or farmer
3. Also often used in banks and insurance b/c banks and insurance
companies cannot file for bankruptcy
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BANKRUPTCY
I. Chapters 1, 3, 5 general provisions applicable to all proceedings unless excludes
II. Chapter 7 - liquidation for consumers and businesses
III. Chapter 11 - reorganizing businesses
IV. Chapter 13 - consumers and small businesses (not corporations) to make
payments over time
V. Start of bankruptcy
A. Bankruptcy starts with the petition - information must be true and petition must be
signed
B. Petition is accompanied by schedulesC. Fee
VI. The estate - 541
A. Created when bankruptcy petition is filed
B. It is all of the debtors property at the time of filing (excluding services performed
by an individual debtor after commencement of the case, i.e. wages, commissions
etc earned after the petition is filed - as such no part of estate, need not be
surrendered to the creditor)
C. Expectancies - part of the estate or part of the fresh start?
D. Sharp v. Dery
1. Employee bonus based on the prior year (Jan 1- Dec 31 1998), but was
paid in 1999, while petition filed in Dec 21, 1998
2. To receive a bonus, employee must be employed at the time the bonus
check disbursed - issue whether the bonus is part of the estate or part of
the fresh start
3. Whether the debtor had an enforceable interest in the bonus at the time
of filing? No - thus not property of the estate, but fresh start
E. Types of expectancies:
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1. Legal interests that are not enforceable at the time of filing but may later
be enforceable - see Dery
2. Permits or licenses that are non-transferable (the question will turn on
whether they are bought or sold in practice)
a. Brother license (like liquor license) is property
3. Restrictions on transferability imposed by contract or statute (if
restrictions are valid in bankruptcy then not part of the estate - 541(c)(1)
makes most of them unenforceable)
a. Most important restrictions recognized in bankruptcy:
(1) spendthrift trust exception 541(c)(2) - retirement accounts can be
kept out of the estate if set like spendthrift trusts; if the account hasrestriction on transfer enforceable under state law then not part of
the estate
(2) ERISA qualified account - not part of the estate (SCOTUS)
(3) In re Orkin
(a) non ERISA qualified b/c person not an employee and as
such the restriction in the plan is not enforceable and thus
cannot be excluded from the estate
(b) if debtor has a power to amend or terminate the trust,
usually cannot be excluded from the estate (restriction can
be changed) under state spendthrift law
(4) other retirement plans excluded from the estate (IRAs)
(5) exemptions (part of the estate but exempted from liquidation) and
exclusions (not part of the estate)
VII. Trustee
A. Gather the debtors property, maintain it, sell it and distribute proceeds
B. Scrutinize claims, challenge improper exemptions, preferences etc - tasked to
enlarge the estate
C. Selected by the US Trustees Office 701(a)
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VIII. Automatic Stay
A. Filing a petition prohibits creditors attempt to continue to collect on debtors debt
from him or his property
B. 362(a) and 362(b)
C. Andrews University v. Merchant
1. Withholding of debtors transcript or refusal to issue a transcript until
debtor pays the debt is a collection act and violates automatic stay
362(a)
D. Nissan Motor v. Baker
1. Creditors retention of estate property after notice of bankruptcy filing
violates automatic stay2. 542(a) requires creditor to return the estate property; disregard of this
obligation imposes the obligation on creditor to pay for damages caused
by the violation
E. Debtor has to file schedules when files bankruptcy petition, containing list of
debts, income, assets and expenses, list of creditors and exempted property
F. Schedules must be complete and accurate, otherwise debt may be
nondischargeable (523(a)(3)); false statements may lead to denial of discharge of
all debts 727(a)(4) or even lead to prosecution
G. Must include pay stubs for the past two months prior to filing and statement of
income including any anticipated raise in income 521(a)(1)
H. Must include tax return for the prior year 521(e)(2) and failure to provide any of
the documents will result in dismissal of the case 521(i)
I. Prior to filing debtor must obtain certification that they attended debt counseling
session 109(h), 521(b) \
J. Attorney must sign the debtors petition - represents that the attorney has
conducted a reasonable investigation and has no knowledge that something is
incorrect 707(b)(4)(C) - otherwise attny may lose fees, pay damages or must pay
fees to opposing counsel
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K. 341 meeting of creditors
IX. CHAPTER 7 - Liquidation Bankruptcy
A. Trustee gathers all of the debtors property, sells the property and distributes the
proceeds to the creditors, in the proportional share and the remaining debts are
discharged
B. When trustee sells a piece of property, he first deducts costs of sale and his fee,
then pay off the secured party and if there is anything remaining it goes into the
general distribution fund
C. Even if the property is exempt, it can still be sold but the debtor will receive the
amount of exemptionD. Three groups of unsecured creditors:
1. Priority creditors - they get paid in full or up to their dollar limits before
any other creditors get anything 507(a)
2. General unsecured creditors - paid pro rata
3. Subordinated creditors
E. Substantial abuse - court can dismiss Chapter 7 case for substantial abuse 707(b)
F. In Re Shaw
1. Test for substantial abuse - totality of circumstances, particularly 5
factors
a. Illness, disability, unemployment as a cause of bankruptcy
b. Whether schedules and statements of income and expenses reasonably
and accurately reflect financial condition
c. Whether debtor incurred advances and purchases in excess of ability to
repay
d. Whether the proposed budget is excessive or unreasonable
e. Whether the petition was filed in good faith
2. Court found substantial abuse, people living beyond their means and
could cut expenses substantially and have high income
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G. Abuse 707(b)
1. Only consumers are screened for abuse - if debts are mostly business
related no screening for abuse 707(b)(1)
2. Screening for abuse - now courts employ the automatic system based on
formula
3. If filing of petition is abuse, then convert to Ch 11 or 13 or dismiss Ch 7
petition 707(b)(1)
4. Two ways of finding abuse
a. Means test formula in 707(b)(2)(A)(I) - presumed abuse if cannot pass
the means test
(1) Special circumstances: illness or armed forces service may justifyadjustments to the formula calculations, but adjustments must be
put into formula
b. Even if debtor passes means test formula he could still be abuser under
707(b)(3) - grounds for dismissal here are bad faith and totality of
circumstances (no substantial abuse standard, only abuse
5. Means test: define income and expenses, deduct expenses from income
and if the difference would pay at least X amount of debt, the debtor will
be barred from Ch 7 bankruptcy, absent special circumstances
a. If the debtors income is lower than or equal to the median income for
similar family in the state where he files, the debtor passed the threshold
test and is not barred from Ch 7
b. If the income exceeds the median 707(b)(2)(A) then means test formula
must be worked out
c. Income defined in 101(10A) - for the 6 months preceding the filing
d. Expenses: IRS national standards for expenses allowances based on
family size
e. In Re Kimbro
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(1) A debtor may deduct an ownership expense for a vehicle regardless
of whether the debtor has a lease or debt payment on that vehicle
(2) Congress intended uniform bright-line rule for the means test
f. Secured debts - can be deducted in full no matter how large they are
707(b)(2)(A)(iii)
g. Income after expenses
(1) even if there is some surplus, the final calculation must be done -
total amount of surplus over 60 months and the amount of
unsecured, non priority debt the debtor owes
h. Raising means-test presumption: below-median debtor - no one
707(b)(7)i. Raising abuse
(1) for below median debtor: judge or trustee;
(2) for above median: judge, trustee, any creditor (general abuse and
failure of means test)
j. Attorneys - 707(b)(4)(A) attorney may be ordered to pay the costs and
attny fees to a trustee who prevails on motion to dismiss Ch 7 filing for
failure to pass means test if the attorney did not make reasonable inquiry
into factual basis
k. If trustee or creditor loses 707(b) motion, debtor may recover if they
filed the motion solely to coerce the debtor to waive its rights under the
Code
X. Exemptions
A. Property exempted from execution / sale - provided in state law generally, but
federal law/ bankruptcy code established uniform federal exemptions but each
state can opt out out of these exemptions 522(b)(2)
B. If a state does not opt out a debtor may choose between the states exemptions or
federal exemptions
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C. Voluntarily secured debt is not protected - mortgages, car loans etc., property can
be seized even if declared exempt
D. Federal exemptions - 522
1. Anyone not claiming homestead exemption, can claim the value of
homestead in ANY property 522(d)(5)
2. Homestead exemption 522(d)(1) - 20,200 single/40,400 couple
E. Valuation of exempt property:
1. fair market value 522 must be interpreted in the liquidation context in
Ch 7 case (In Re Walsh)
2. Wedding diamond ring, worn regularly was considered clothing
necessary for the family - value to be used fair market value (differentfrom Walsh) (In Re Mitchell)
F. Proceeds from exempted property
1. Whether exempt wages remain exempt once they have been paid to the
employee and deposited into debtors bank account - one group of courts
2. Once wages are paid by cash, check or deposited to the bank account,
they are not exempted any longer - other group of courts
3. Money paid by a former spouse to a custodial parent for child support
pursuant to a court order are trust funds and are not part of the estate
4. Some states exempt child support payments even when not held in trusts
and
even
when
already
receive
d,
unlike
wages
G. Partially exempt property
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5. This is separate question from discharge of debts in bankruptcy, which is
determined by federal law - 727(a)(2) discharge will be denied for
debtor who transferred property with intent to hinder, delay or defraud
C. Equity in a homestead can be reduced by a dollar amount attributable to non
exempt property that debtor converted with intend to hinder, delay or defraud a
creditor - 10 years reach back 522(o)
D. Absolute cap on homestead exemption for people convicted of securities violation,
fraud etc 522(q) and the discharge could be delayed to see if the debtor will be
subject of such proceedings
E. 522(p) debtor cannot exempt any amount that was acquired by him during 1215
preceding bankruptcy that exceeds $136,875
F. Moving for better exemptions
1. 522(b)(3) - applicable exemption will be the one where the debtor
resided for 2 years; it takes 2 years of residence in a state to take
advantage of the local exemptions
2. If debtor moves during the 2 y ear time - go back to the 180 days that
precede the 2 years to see where the debtor was for the majority of that
time
G. Unlimited exemptions - fraternal benefit associations (life insurance policies or
annuity contracts) and asset protection trusts (a person transfers his property int oa
trust, names himself both a trustee and a beneficiary and enjoys the property - no
one can then touch the property, legal in 11 states) and foreign asset protection
trusts
1. In bankruptcy, debtor will claim that assets in the trusts are not part of
the estate under 541 (c) which references to the state law - must be
spendthrift
2. Could also be made exempt under state law and recognized under 522(b)
3. Could be set aside under Reed
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1. Once bankruptcy is filed, all claims must be accelerated whether they
are matured or not
2. Bankruptcy court must resolve these claims, sometimes this is hard b/c it
is unknown what the obligation will be
3. Domestic support obligations that have not come due at the time of
filing are not accelerated 502(a)(5) - these obligations are not
discharged anyway
I. Secured claims
1. 502 - allowed claim calculation, but 506(a) grants secured creditor an
allowed secured claim up to value of the collateral (fully secured) or
partially secured, the remaining portion of the claim becomes unsecuredclaim - bifurcated claim
2. 506(c) trustee may deduct costs of sale
3. Interest
a. Pre-petition interest accrued prior to bankruptcy OK
b. Post-petition interest OK for over-secured creditor 506(b) usually at the
contract rate
4. Attorneys fees
a. Incurred prior to bankruptcy treated same as pre-petition interest, if
entitled to these fees they become part of the secured or unsecured claim
b. Post-petition attorneys fees - over-secured creditors can get these fees
up to the value of collateral 506(b)l; unsecured creditors should not get
post-petition attorneys fees like they can get no post petition interest
(there is some different case law though)
5. Valid consensual security interests trumps exemption, debtor can claim
exemption only in the equity, the value remaining after the secured
creditor has been paid in full
J. Post-petition claims
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1. Some post-petition claims can be made under 503 - expenses of
administration if money used to improve the property before sold (these
claims have priority in payment as administrative)
K. Priority among unsecured creditors - 507
XIII. Discharge
A. Discharge is not matter of right and can be challenged by the trustee or a creditor -
objection to discharge of particular debt under 523 (only one debt discharge is
denied - rifle shot) or all debts under 727 (global denial)
B. Global denial - assets turned to trustee are sold, creditors are paid from what was
collected but the remaining, unpaid debts are not discharged
C. In Re McNamara1. 727(a)(5) - denial of discharge for failure to explain loss of assets or
deficiency
D. 523(a)(8) - student loans are not dischargeable unless debtor showed undue
hardship - for test of undue hardship see In Re Miller at 245; 105(a) alternative
equitable remedy
E. 523(a)(2)(A) - false pretenses, false representation, but if statement regarding
debtors financial condition then must look into 523(a)(2)(B) (In re Sharpe, In re
Hill)
F. Taxes - priorities and discharge
1. 507(a)(8)(A)-(G) are given priority in payment, and also unpaid portion
of these taxes is not dischargeable under 523(a)(1)(A) (same is true for
pre-petition interest on these taxes
2. Post-petition interest on taxes does not accrue against the trustee or the
estate, but it does accrue against the debtor - 502(b)
3. Penalties on these taxes also undischargeable, and IRS can seize exempt
property to satisfy them
G. False claims, hiding assets etc can lead to bankruptcy crimes
XIV. Reaffirmation
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A. At the time of discharge automatic stay - 362(c)(2)(c) - ends and injunction slides
into place 524(a) - prohibits any attempt to collect discharged debt
B. 524 (c) - debtor may reaffirm soon-to-be discharged debt, make it enforceable with
signing reaffirmation agreement - agreement must be signed before discharge,
must be filed with the court, contains an option for debtor to rescind within 60
days and some other see 524(c)
C. Court may disapprove the agreement if the debtor cannot mange the payment
524(m) - does not apply to credit unions 524(m)(2)
D. Safe harbor provision for creditors - failure to abide by the reaffirmation rules will
still be OK if made in good faith 524(L)(3)
E. Reaffirmation of Secured Debt1. Secured debt remains attached to its collateral and can be enforced
against the collateral after bankruptcy, even though debtor cannot be
sued for deficiency
2. In Ch 7 debtor who has secured debt has two options to avoid
surrendering collateral to the creditor:
a. Redeem under 722 - debtor must pay full loan or full value of collateral
in cash, whichever is less; property must be either exempt or abandoned
(UCC provision also)
(1) if the debtor redeems, he can pay the value of the collateral, the
remaining debt will be unsecured and dischargeable
b. Negotiate reaffirmation 524(c)
c. Ride-through (case law creation) - debtor is not in default at the time of
filing and continues to make scheduled payments and the creditor does
not do anything to reclaim the collateral. The debtors personal liability
debt is discharged though, debtor may abandoned the property w/o
responsibility for deficiency
(1) courts differ on this - code does not mention it
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3. Reaffirmation - creditor agrees that the debtor keep the
property/collateral in exchange for a promise to repay that will survive
bankruptcy
a. Debtor can again be sued for deficiency if the loan is not paid off, and
collateral can be repossessed
b. Debtor cannot force reaffirmation on the creditor (unlike redemption)
c. Reaffirmation agreement can be negotiated to contain provisions
different from the original contracts
F. Reaffirmation of Unsecured debt
1. Passive reaffirmation (In re Paglia)
2. Debtor can pay voluntarily any debt after discharge 524(f)G. Non-discrimination of persons in bankruptcy 525
CHAPTER 13
I. Characteristics
A. Debtor keeps all the assets, but agrees to turn over a portion of his future income
for a minimum of 3 years (trustee does this for every pay period and turns it
according to the court approved plan), once the payout plan is completed, the
remaining debts are discharged
B. In Ch 13, debtor remains in possession of the property
II. Trustee
A. Objecting to improper creditor claims
B. Making sure debtor gives up proper amount of income and that payment is
distributed to creditors 1302(b)(5), 1326 - if debtor misses payments may request
wage attachment (state garnishment protections do not apply) order or files for
dismissal of the case for non-payment
C. Objections to discharge
D. Assist debtor in carrying out debtors duties 1302(b)(1), (4)
E. Recommends approval/denial of confirmation of debtors plan 1302(b)(2)(B)
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F. Trustees fees set by the court subject to statutory maximum
III. Process
A. Ch 13 starts with the petition, there is no involuntary Ch 13
B. Debtor must file a payment plan out of the future income - key issue, development
of acceptable plan
C. Commencement creates an estate (541) which includes property and earnings
acquired after the commencement but before the case is
closed/dismissed/converted (1306(a)) and debtor remains in possession of the
estate property
D. Confirmation of the plan vests all the estate property in the debtor 1327(b)
E. Automatic stay (362) applies from the commencement until the case is closed ordismissed
IV. Ch 13 Plan
A. Payment to Secured Creditors
1. One of the main incentives of Ch 13 for the debtor is to retain property
subject to security interest
2. To prevent the creditor from repossessing the collateral, the debtor must
create the plan that will fulfil the protections designed to protect secured
creditors
3. Two main issues for the court when it comes to secured creditors:
a. Adequate protection 362(d) - of secured creditors interest in the
collateral while the case is going on (loss of collateral and decline in its
value)
b. Adequate payment to the secured party - formula calculating minimal
amount the debtor has to pay to keep the collateral
4. Creditor can move to lift the automatic stay 362(d) claiming lack of
adequate protection for his interest in collateral (moving to lift the stay
available in Ch 7 (rare), 13 and 11)
5. In re Radden (lifting the stay)
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6. In Ch 13, under 1303, debtor has powers that trustee in Ch 7 has or DIP
in Ch 11 (seek turnover under 542(a))
7. General rule of payment - 1325(a)(5):
a. Secured creditor must be paid its allowed secured claim (allowed
secured claim depends whether he is oversecured or undersecured) in
full AND
b. It must be paid interest on that claim (these two amounts combined
referred to as present value of the allowed secured claim)
8. Modifying secured creditors contract
a. Cramdown (1325(a)(5) - if the creditor is undersecured the debtor can
promise to pay allowed secured claim (the value of collateral), whiletreating the unsecured portion of the debt like any other unsecured debt
b. Cramdown can be imposed on the creditor over his objection - if the
debtor completed the plan, unpaid unsecured portion of the debt is
discharged, but if he failed then debt will not be discharged and security
interest can be enforced in full 1325(a)(5)(B)(I)
c. Cramdown is not applicable to mortgages and other two exemptions
under 1325(a) and these must be paid in full (not to the value of
collateral) plus interest:
(1) any PMSI granted within 1 year before bankruptcy (1 year reach
back)
(2) PMSI in motor vehicle granted within 2.5 years prior to bankruptcy
d. For determination of the value of the collateral under 506(a) for
cramdown purposes replacement value is used (value that the debtor
would have to pay for comparable property (Rash) 506(a)(2)
e. Computing the amount the secured creditor must be paid in Ch 13
(1) amount of allowed secured claim under 506(a)
(2) present value of the allowed secured claim under 1325(a)(5)(B)(ii) -
includes interest
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(a) interest rte is to be calculated by formula - prime rate plus
little more (Till)
f. Cramdown vs. redemption = debtor can reduce an undersecured claim to
the value of collateral (lien stripping) - possible also ride-though to
achieve the same result
B. Payments on the home mortgage
1. Home mortgages exempt from cramdown rule - but most debtors in Ch
13 are trying to save their home from foreclosure
2. The only relief in Ch 13 when it comes to home mortgage is cure and
maintain under 1322(b)(5) (catch up on payments and keep paying the
new dues)3. Whenever the value of the home is higher than the mortgage, mortgage
will be adequately protected
4. Two main problems arise in Ch 13 as to mortgages:
a. Saving the home from foreclosure
b. Proposing the plan to comply with provisions of Ch 13 to protect
mortgage lenders
5. 1322(b)(5) was intended to permit the cure and de-acceleration of
mortgage accelerated prior to filing Ch 13 bankruptcy for default and to
reinstate original payment schedule (Taddeo)
6. 1322(c) gives homeowner debtor the right to de-accelerate at any time
prior to the foreclosure sale
7. 1322(b)(2) ban against modifying mortgages
8. Some courts allowed stripping down the second mortgage on the home if
the second mortgage is wholly unsecured (under 506 and 1325)
C. Payments to unsecured creditors
1. Unsecured creditors are pooled together for pro rata treatment
2. Unsecured creditors can request the debtor to make larger payments
under the plan - under two provisions of 1325
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a. Best interest test - requires that each creditor receive at least as much as
that creditor would have received if the debtor have gone into Ch 7
1325(a)(4), (a)(5)(B)
b. Debtor must devote all disposable income to plan payments during the
life of the plan 1325(b)
(1) additionally, plan must be proposed in good faith and not forbidden
by law 1325(a)(3)
3. Disposable income (similar to means test)
a. First thing - determine whether debtor is below or above the state
median (must include spouses income 1325(b)(4)(A)(ii)) - if the debtor
is below median and chooses to file Ch 13, he passed the threshold anddisposable income will be governed by reasonably necessary standard
b. If the debtor is above median:
(1) his Ch 13 plan must last for 5 years instead of 3 for below median
debtors (1325(b)(4)),
(2) if he would be barred from Ch 7 b/c of surplus of income under
means test, the amount they he has to pay under Ch 13 plan is not
governed by reasonably necessary standard but rather the
disposable income test fixing the amount he must devote to plan is
the surplus calculated under the 707(b)(2) means test 1325(b)(2)-(3)
c. If the debtors disposable income under means test is negative, she does
not have projected disposable income and thus commitment period
(temporal) is inapplicable to voluntarily submitted plan (Kagenveama)
d. For below median debtors - discretion as to reasonably necessary, while
for above median it is IRS guidelines
4. Family support, taxes, other priority claims
a. Creditors with priority claims under 507(a) are entitled to payment in
full in Ch 13 (1322(a)(2), requirement for plan confirmation
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b. Non payment may lead to dismissal of the case, and there is no priority
among priority claims, they all have to be paid in full
c. If the debtor does not have enough money to pay the house, car, priority
claims etc then the Ch 13 plan cannot be confirmed - debtor may get rid
of some property to reduce payments or, if eligible, file Ch 7
d. Tax claims in Ch 13 - two benefits
(1) paying taxes off in installments with automatic stay holding off IRS
362(c)(2)(C)
(2) denial of post-petition interest on unsecured claims will lock the tax
claim at its value as of the date of the filing 502(b)(2)
(a) if the IRS does not file the lien, its claim is unsecured, alsoif the claim exceeds the value of the lien then unsecured
claim again
e. Priority claims are paid the nominal amount of claim, not present value
and no interest 1322(a)(2) - interest stops at the time of filing
5. Good faith
a. Sometimes this objection is filed by trustee under 1325(a)(3)
b. The means test for above the median debtor is a must, no payment under
this test is not bad faith
6. Modification and dismissal of Ch 13 plans
a. When debtors income projections do not happen, he, the creditor or the
trustee may move to have the plan modified or dismissed - 1329(a)
(1) modification for purchase of health insurance 1329(a)(4)
b. Ch 13 plan is limited to 5 years 1322(d)(1) - when plan is modified, it
still must meet all the requirements as the original plan, including 5 year
limit (for above median debtor, plan cannot be shorter nor longer than 60
months)
c. Plan may be modified to permit higher payments (if debtor gets a new
job i.e.)
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(1) debtor must file financial updates if any party of judge requests
them describing income and expenses for the latest tax year under
penalties of perjury 521(f)(4)
7. Threshold eligibility for Ch 13
a. Natural persons with limited debts and regular income 109(e)
b. Debtor must have noncontingent, liquidated debts under the statutory
maximum to be eligible for Ch 13 109(e)
(1) debt is liquidated if it is subject to ready determination and
precision in computation of the amount due - whether the process
for determining the claim is fixed, certain or otherwise determined
by a specific standard, if the amount of claim is easily calculable thedebt is liquidated and liability (disputed) should not be considered
(2) debt is contingent if on the occurrence of a future event that brings
liability into being
D. No discharge of debts stemming from civil action for willful or malicious acts
1328(a)(4)
E. 526-528 imposes substantial responsibilities upon attorneys in bankruptcy; putting
debtor into Ch 13 to get the attorneys fees paid is an attractive option although
putting debtor eligible for Ch 7 into Ch 13 may not be the best option - however
Ch 13 offers more for the lawyer
V. Liquidation
A. Mixed business and consumer liquidations
B. No discharge, corporation dies, it is liquidated
C. Business liquidations - debtor can convert from Ch 11 to Ch 7 (1112)(a) and
creditor may do so on showing (1112(b)) and also debtor will be converted to Ch 7
if the creditors do not approve the plan by majority from 1126(c)
D. Involuntary bankruptcy 303
1. Relatively difficult and rare
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2. Reasons to file: protection of unsecured creditors (usually they file) fom
waste of assets or creditor preferences
3. Can be Ch 7 or Ch 11 303(b)
VI. Chapter 11 Reorganization
A. Debtor reorganizes its debt by extending the time in which to pay the debt and
reducing the total amount to be paid
B. Ch 11 available to individuals and corporations (but mostly corporations are in Ch
11, and individuals in Ch 13)
C. Types:
1. Balance sheet reorganizations, happen on paper - old equity is gone,unsecured creditors become new stockholders , and business is
operationally sound
2. Reshuffling of business - closing down on some divisions, making the
new company leaner with less debt burden
D. Reorganization keeps the business alive and operational, preserves jobs,
community and equity as oppose to liquidation, debtor stays alive and in control of
the business (Debtor in Possession - DIP)
E. Distinction between small businesses (debts less than 2 mil at the time of filing)
where small businesses can be forced out of Ch 11 easier than big businesses
F. Mechanics
1. When petition is filed, automatic stay is imposed 362(a), business
continues to operate in the ordinary course 363(c), under control of DIP
(who now controls the new entity, the estate and has most of duties and
rights of TIB (trustee in bankruptcy) 1107, DIP now acts on behalf of all
of his creditors - thus usually TIB is not appointed in Ch 11
2. DIP can run business in the ordinary course, but is limited in use of
assets subject to security agreement 363(c), (e) and creditors can seek to
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lift the automatic stay as to their collateral for lack of adequate
protection 361, 362
3. DIP may obtain financing with the court approval 364
4. DIPs avoiding powers:
(1) Power to recover preferences within 90 days of bankruptcy 547
(2) Power to assume/breach outstanding executory contracts 365
(3) To void fraudulent conveyances 548, 544 (b)
(4) Power to set aside unperfected or late-perfected security interest in
his property 544(a), 547
(5) To require turnover of debtors property held by another entity 542,
5435. After the filing and the initial mess, debtor starts to negotiate a plan with
its creditors (who create a committee to scrutinize debtor and negotiate)
1102
6. Proposed reorganization plan: debtor will pay each class of creditors
certain percentage of their claims over certain period of time, in cash,
property or securities issued by the reorganized debtor
7. Plan will be put up for vote, and if approved by certain majorities of
creditors under 1126(c), it will be confirmed by the court if it conforms
to requirements of 1129 and upon confirmation of the plan debtor is
discharged from all pre-petition debts except as provided in the plan
1141(d)
8. Non traditional Ch 11 approaches:
a. Auctions - sale of entire business in Ch 11 through an auction (no
recovery for shareholders, and under 363 can be done w/o confirmed
plan)
b. Prepackaged plans - debtor negotiated the plan with its creditors outside
bankruptcy but needs bankruptcy protection to close the deal
9. Single Asset Real Estate Case
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a. Definition of SARE 101(51B) (i.e. corporation with only asset is a office
building and only debt is mortgage on that building)
10. Liquidation in Ch 11 (instead of converting to Ch 7) - usually connected
to auctions and prepackaged plans
G. Automatic Stay and Adequate Protection
1. Court must act on the request to lift the stay within 30 days or the stay
will be automatically lifted as to the requesting creditors collateral
362(e) - then debtor must show adequate protection of the secured
partys interest in the collateral 362(g)
2. Debtor cannot pre-petition and unilaterally agree not to content the
request to lift automatic stay in bankruptcy - this agreement in itself isnot sufficient to lift the stay; person cannot unilaterally waive the
automatic stay against the interest of its creditors
3. Stay under 105(a) as against those not parties to the bankruptcy
4. Lifting the stay
(1) lack of adequate protection (equity cushion in the property should
be adequate protection)
5. Payments while Ch 11 is pending
a. How much the debtor must pay over the course of the proceeding to
provide adequate protection - if the debtor cannot make the adequate
protection payments, creditor may move to lift the stay and in that case
the collateral will be repossessed and business will likely fold
b. Court must make determinations of valuation, depreciation, future
market and then decide how much debtor must pay during the
proceedings to as a protection to the creditor against anticipated loss of
collateral value (could be payments, additional lien, equity cushion)
c. Calculation of interest in Ch 11 is like the one in Ch 13 - secured
creditor get present value of their allowed secured claims, unsecured
creditors get present value of what they would get in Ch 7 CREDITOR
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MUST BE NO WORSE OFF IN REORGANIZATION THAN IT
WOULD BE IN LIQUIDATION - See page 421
d. Single Asset Real Estate cases - 362(d)(3) - debtor must either propose a
workable plan promptly (90 or 30 days) or to start paying interest (could
be from rents) on the value of the collateral in the percentage set by the
contract rate
H. Good faith
1. Unsecured creditor may request Ch 11 to be converted to Ch 7
(demonstrated futility of Ch 11 plan) or motion to dismiss for lack of
good faith
I. Motion under 1112 to convert or dismiss, can be used by both secured orunsecured creditor whereas 362 motion can be used only by secured creditor
J. Control in Ch 11
1. DIP remains in possession and continues running the business - debtor
and creditors in Ch 11 are like business partners hoping that business
will survive
2. Disputes between the debtor and creditor about running the business -
whether moves are right or not, different interests are in the play, of the
debtor, of different creditors
3. If these conflicts become too serious creditors can move to convert Ch
11 into Ch 7 or to appoint trustee to run the business 1104 (grounds like
fraud, mismanagement etc) - US Trustee must move for appointment of
trustee under 1104(e); there is general presumption against appointing
trustee (examiner instead 1104(c))
4. In Ch 11 the DIP does not have the freedom to run the business as it
would have outside bankruptcy - it is a balance btw interests of running
the business and protection of creditors
(1) Cash flow and use of cash: if the cash not subject to a lien is used in
the ordinary course of business under 363(c)(1), less restrictions -
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but cash subject to lien AKA cash collateral (from sale of inventory
or collection of accounts subject to Art 9 proceeds claim by lender
secured by inventory or accounts), cannot be used by DIP w/o
permission of bankruptcy court 363
(2) cash collateral is highly volatile - protection of creditor with lien as
well as allowing debtor to operate,
(3) right of set-off: affects availability of cash subject to security
interest, under the code a creditor has a right to offset the debt it
owes to the debtor against the debt owed to the creditor by the
debtor, 553 (often exists with banks)
(4) creditor with right to set-off is treated like a secured creditor for theamount of set-off (506(a)) and account subject to set-off is cash
collateral (363(c)), but is subject to automatic stay - creditor could
not setoff w/o violating the stay, and it must ask courts approval to
have the stay lifted before it can setoff, but it can administratively
freeze the money in the account to protect itself while the
application for lifting stay is pending
b. Post-petition financing - debtor must find cash to finance its business
operations
(1) bankruptcy code offers incentive to lenders to offer post-petition
financing through by giving these creditors a special protection
(2) debtor can offer post-petition lenders a security interest in its non-
encumbered property or property acquired after the filing (usually,
absent UCC claim, the pre-petition security interest does not attach
to the property acquired by DIP after filing because this property
becomes part of the estate)
(3) if DIP obtains financing through 364, the existing security interest may
slide down in priority (priming the existing loan)
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(4) cross-collateralization: securing a pre bankruptcy loan with new or
additional collateral granted post-bankruptcy as a part of new post
bankruptcy loan (in exchange for post petition financing) - not
authorized under 364 of the Code (see case law) and mootness is
not applicable to it
(5) mootness: if bankruptcy courts decision approving priority
repayment (for new financing) will not be upset on the appeal -
364(e) - party appealing can only apply for a stay of that order
(6) owner financing: pre-bankruptcy owner may want to invest to keep
the business running, but equity (owners) cannot keep value unless
all creditors have been paid (Absolute Priority Rule) - sometimes, iffinancing cannot be obtained elsewhere, court may allow them to
retain value (ownership in the post bankruptcy business) if it is fair
and creditors will be benefitted. See also Supreme Court case, real
estate partnerships cannot buy equity in the partnership w/o giving
opportunity to others to bid
(7) goods and services: these suppliers are reluctant to supply goods
and services to debtor in Ch 11, even though they get admin priority
(503(b), 507(a)(1) - often they would only get like other unsecured
creditors except:
(a) sometimes there can be a critical vendor exception
(b) right of reclamation (UCC) and 546(c), can get goods back -
except for security interest that cover inventory or newaly
acquired property will trump reclamation right
5. Avoiding powers of DIP
a. DIP may avoid/undo pre-bankruptcy transaction between debtor and
certain creditors for the benefit of all creditors (DIP is different than
debtor, DIP represents all interests)
b. Strong-Arm Clause - 544(a)
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(1) UCC and state law control order of priority in encumbered property
(2) 544 gives TIB, as of date of filing, rights and powers of judicial lien
creditor, execution creditor or bona fide purchaser (for real-estate)
(3) limited by 546
(4) lien creditor status/powers of DIP - 544(a)(1)-(2) (less power undr
state law)
c. Preferences
(1) 547(b)
(2) TIB reviews activities of the debtor in the time before near the
bankruptcy, to determine whether some creditors received
preferential treatment before the bankruptcy was filed - if this is thecase, the TIB may dismantle some of these transactions that took
place within 90 days prior to bankruptcy (these creditors cannot
keep their position)
(3) voiding preferences under state law - UFTA 5(b)
6. Executory contracts - 365
a. Ongoing contracts of the business - contracts negotiated before the
bankruptcy but with performance continuing or due after the filing
b. Review of these contracts is very important
K. Negotiating and confirming the plan - 1129
1. Statutory majority of each class of creditors must vote in favor of the
plan in order for the plan to be confirmed 1126, 1129(a)(8)
2. Thus, debtor must negotiate the plan with the creditors to have their
approval
3. Tax issues - discharge in bankruptcy may be considered income, but
income from discharge is excluded from gross income, so tax does not
have to be paid on it, but it has to be offset against tax advantages
4. Requirements for confirmation 1129- many but most important:
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a. Best interest of the creditors 1129(a)(7)
(1) plan must be in the best interest of the creditors that do not agree
with it (applies to each individual creditor)
(2) for the creditor who did not vote individually for the plan this test
requires finding that each such creditor will receive at least as much
under the plan as that creditor would have received in Ch 7
liquidation
(3) if a creditor objects in this manner, debtor has a burden to show
liquidation value of the company to determine how much would
creditor receive
b. Feasibility 1129(a)(11)(1) plan must be feasible even if every creditor agrees
c. Classification and voting
(1) Plan must be approved by majority of creditors, who are divided in
classes (according to their similar legal status and pro rata
distribution)
(2) class of creditor approves when more than in number of creditor
and 2/3 in amount of debt votes in favor
(3) classification is very important - code only says no dissimilar
claims in the same group, but nothing about whether similar
creditors might be placed into separate groups (or must similar
creditors be placed into same group) 1122(a), (b)
(4) each impaired class of creditors must approve the plan under the
two-part majority ( +1 in numbers, 2/3 in amount)
(5) issues with classification
(6)