Bankruptcy: Absolute Priority Rule

             Two bankruptcy cases well explain the rights of parties to contribute new value upon bankruptcy reorganization. 

     In In Re Woodscape Limited Partnership the United States Bankruptcy Court for the District of Maryland at Rockville held that the owners of the debtor corporation have an independent right to contribute new value to the reorganization, and in exchange may receive an interest in the reorganized debtor, which is equivalent to the new contribution. This decision was contrary to In Re Greyston III Joint Venture. 

     In Travelers Ins. Co. v. Bryson a Bankruptcy Court in North Carolina ruled that a provision in a debtor reorganization plan which limited the right to contribute new capital to the debtor's partners, as well as the right to the return of their new capital prior to recovery by an unsecured creditor, is not fair and equitable to the unsecured creditor. 

     Commercial creditors should carefully consider contributing new capital to debtor business. In some instances, the investment may be wise.

Bankruptcy: Redemption - Exercising the Right of Redemption

     Can debtors exercise the right of redemption after discharge has been ordered?
     A decision by Judge Krumm for the Western District of Virginia appears to have answered this question. The case was In Re Hawkins. The debtors sought to reaffirm the bank loan secured by their Dodge Colt. The debtors later learned of Bankruptcy Code §722 redemption rights, and sought to redeem instead of reaffirm. Before redemption was achieved, the chapter 7 discharge was granted. The creditor opposed the motion and alleged that debtors' right of redemption expired when they were discharged in bankruptcy. The court found for the debtors and held that the debtors' discharge did not bar their motion for redemption under § 722. Debtors were clearly entitled to reaffirm debts after discharge under 11 U.S.C.S. § 524. While 11 U.S.C.S. § 722 was silent on whether they were allowed to redeem property after discharge, the court found that it was Congress' intent to consider the concepts of reaffirmation and redemption together. The court reasoned that although the Code is silent as to when debtors may exercise their right to redeem, since concepts from reaffirmation and redemption were considered by Congress together, the time frame for exercising one option should be applicable to the other option. Therefore, the time frame for exercising redemption rights was the same as that for exercising reaffirmation rights.
     Right to redeem / repossess property in Chapter 13 cases:
     In the case of Tidewater Finance Co. v. Moffett, the Fourth Circuit Court of Appeals ruled that a Chapter 13 debtor was entitled to the return of her car, which had been repossessed by a finance company. This decision affirmed the original bankruptcy court decision, as well as the appellate decision of the District Court.
     In Moffett, the debtor, in her reorganization plan, exercised her right to redeem under the Virginia Uniform Commercial Code (“UCC”); the plan provided for full payment of her debt to the finance company, plus interest on the delinquent payments.
     The debtor worked at the Federal Emergency Management Agency, forty miles from her home. A couple of years prior to the bankruptcy filing she had bought a previously owned, three year old Honda Accord from a dealer in Woodbridge, which assigned its loan to the finance company creditor. The car was the debtor’s only means to get to work each day. The debtor made her payments in a timely fashion for a year, and then missed two payments. This prompted the finance company to repossess the car. Later that same day the debtor filed for Chapter 13 bankruptcy. A week after that the debtor’s lawyer demanded that the finance company return the car. The finance company filed a motion for relief from the automatic stay so that it could sell the vehicle. The bankruptcy court denied the motion, however, and ordered the finance company to return the car. In doing so, the bankruptcy judge required adequate protection for the creditor in the debtor’s Chapter 13 plan. The debtor’s Chapter 13 plan provided for full payment of the loan. The finance company returned the car, but appealed to the District Court.
     The District Court Judge found that the debtor had a statutory right of redemption, and also found that the finance company was required to turn over the car once its interest was adequately protected in the Chapter 13 plan.
     The finance company appealed again, this time to the Fourth Circuit Court of Appeals. In his opinion, the Fourth Circuit Court Judge cited that pursuant to the federal bankruptcy code, once a petition is filed, an automatic stay goes in effect. Any party with property that the trustee can use, sell or lease must turn it over to the trustee, after that party’s interest is protected. The district judge said the question in this case was whether the finance company and the car at issue were subject to the referenced code provisions. The judge looked at the UCC as controlling, since the case involved default on a purchase agreement with a secured creditor. The UCC allows the creditor the right of repossession, but within limits. The debtor also has rights upon repossession, including the right to redeem the property under UCC Section 8.9A-623 (c)(2). The Judge ruled that the debtor’s right to redemption becomes one of the “legal or equitable interests” of her bankruptcy estate.
     The 4th Circuit agreed with the lower courts that if the creditor’s interest is protected in the plan, then it must turn over the car. UCC Section 8.9-623(b) allows a debtor to redeem collateral by tendering in full its obligations to the creditor. In this case, the Judge noted that the debtor’s plan did just that. The plan even provided interest to the finance company for the delinquent payments. The Judge wrote: “[T]he bankruptcy plan here provided for the payment of all future installments, the curing of all delinquent payments, and the payment of all applicable interest over the course of the plan”. “Such a flexible approach to repaying claims is precisely what the Bankruptcy Code allows in order to facilitate a debtor’s successful rehabilitation.” The Judge affirmed the lower court’s decision.

Real Estate: Using Deeds of Trust to Secure Your First, Second, Equity Line or Refinance Home Loans

      Properly securing debts through real estate could make the difference between collecting the funds and incurring a loss. In this blog, we will review the benefits of securing your first, second, equity line or refinance home loans with a deed of trust.
      Real estate liens provide important security for your debt. Since real estate is the largest investment and asset for most individuals, they will usually make every effort to pay debts secured by their real estate first. However, you need to know the chain of title in order to make an informed decision about your loan. Specifically, in what position will your lien be? Are there any “clouds” on the title? You will not know the answer to these questions without a proper title search and review.
      Once you know your position you will need to examine the available equity to cover your loan. What is the value? What are the balances due on the liens ahead of your anticipated position? Beyond the business decision of determining when the equity is sufficient for your risk tolerance, in order to take advantage of the “$1.00 rule” in the bankruptcy code for chapter 13 cases (should your debtor decide to later file bankruptcy), you need to ensure that there is at least $1.00 in equity to cover the loan. You should take into consideration that property values may go down (e.g., 2008 to present).
      If the deal is made and the real estate closing occurs, immediate and proper recording of your deed of trust is essential to preserve your position. If the debtor defaults, foreclosure on the property can occur. If the debtor seeks reorganization of his debt in chapter 13, you can seek full payment of the debt.
      We have experienced attorneys and staff who can examine title and properly represent your interests in real estate closings.

Bankruptcy: Bankruptcy Filings: Chapter 7 and 13

     Although there are other Chapters under which debtors may seek relief, Chapters 7 and 13 are the most frequently encountered.
Chapter 7

     Chapter 7 involves a discharge of debt by court order. While secured debts may be routinely "reaffirmed", unsecured debts normally are not. Traditionally, debts have been reaffirmed through a Reaffirmation Agreement. The Courts of the Eastern District of Virginia have held, however, that creditors cannot force debtors to execute reaffirmation agreements if they were not in default at the time of the bankruptcy filing.
     Why would a debtor want to pay a debt when he has filed for Chapter 7 relief? The answer is future credit. The possibility of future credit can be sufficient incentive to encourage voluntary repayment for at least two (2) reasons:
     1. Debtors want and need future credit after bankruptcy discharge, and

     2. Reasonable credit after bankruptcy is very difficult to obtain as bankruptcy carries a stigma. Absent special circumstances, the only credit card a debtor may obtain after bankruptcy is a "secured" credit card. These cards are tantamount to a line of credit drawn upon account deposits pledged as security. There are also user fees and high interest rates.
     How do you encourage debtors to voluntarily pay their pre-bankruptcy petition debts? Consider adopting the following written policies:
     1. Post-bankruptcy credit may be extended to debtors who voluntarily pay their dischargeable debts ("the carrot").
     2. No future credit or services, other than those required by law, will be extended to debtors who have caused you a loss by bankruptcy or otherwise, unless the debt is voluntarily repaid (“the stick").
     How do creditors inform their debtors of this policy once a petition of bankruptcy is filed? Consider sending a letter directly to the debtors’ counsel asking that counsel advise their client of the policy.

Chapter 13
     Chapter 13 involves a "reorganization" of the debtor's finances. The debtor is required to devise a plan for repayment: 100% for secured debts and a court-approved percentage for unsecured debts. Creditors are paid in the order of priority - preferred (taxes), secured, and finally, unsecured. Creditors are required to file proofs of claim with the Bankruptcy Court to protect their place in the plan. Plans can take up to five (5) years to complete.

Co-Makers
     When can you proceed against co-makers? In Chapter 7 you can proceed immediately. In Chapter 13, you have to either wait until the plan pays out, or petition the Bankruptcy Court to lift the automatic stay against the co-maker. Once this is granted you can proceed against the co-maker for the percentage not paid by the plan. Although you are required to file the motion to lift the stay, the court is required to grant your relief.

Planning Summary
     Regardless of the Chapter, the best way to minimize your bankruptcy loss is to be secured. In Chapter 13 cases, security can mean the difference between payment at 100% rather than at a nominal percentage. In Chapter 7 cases, security can mean the difference between reaffirmation or no payment at all. In either Chapter, collateral is the key.
     The second best protection from bankruptcy loss is having a solvent co-signer. The old saying "two heads are better than one" can mean much in bankruptcy, especially when your co-signer is not a spouse. Generally, spouses do not make good co-signers because they can file a joint petition for bankruptcy and, in fact, often do because family finances are inter-related. It should be noted, however, that in a case of jointly owned real estate, a spouse's signature is necessary in order to perfect a lien against any real property.