Bankruptcy Law

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Favorite bar examiner areas

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(1) Nondischargeability
(2) Automatic Stay
(3) Avoidance Actions
(4) Potpourri!

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What is bankruptcy law?

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federal law, as per article I, section 8 of the Constitution

It preempts state law (important b/c most debtor-creditor law is state law)

Bankruptcy judges are NOT Article III judges, so they do not have life tenure or salary protections. Furthermore, BR courts do not have broad jurisdictions - they can decide "core proceedings," which are those that are central to the determination of the petition of bankruptcy (exemptions, dischargability, etc.)

BR appeals may be taken to the district court in MS (b/c there is not BR BAP - bankruptcy appellate panel). Appeals from the district court go the the 5th Circuit Court of Appelas.

If a proceeding is NOT a core proceeding (relates to debtor but not central to BR proceeding, such as a breach of contract claim brought by D), then the BR court is allowed to hear case, but it's ruling is not a final order and judgment unless all parties agree to be bound. Rather, the BR judge submits proposed findings, which are subject to de novo review by the district court.

Wrongful death and personal injury claims in which the D is a party CANNOT be tried in the BR court, but ONLY in the district court.

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Models of Bankruptcy

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(1) Liquidation Bankruptcy (chapter 7)

(2) Reorganization Bankruptcy (chapters 11, 12, 13)

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Attributes of Liquidation Bankruptcy (chapter 7)

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Business or individual

Both sides get something

- Debtor ("D") turns over all assets to Trustee ("T").
- T liquidates the assets and orderly distributes the proceeds to D's creditors ("C"). - In exchange, D receives a DISCHARGE (pre-bankruptcy or "pre-petition" debts are forgiven)

NOTE - By signing a Chapter 7 pleading, the D's attorney CERTIFIES that she has performed a reasonable investigation into the circumstances giving rise to the petition and that the petition is well grounded in fact and law and is not abuse. The signature also certifies that after an inquiry, the attorney has NO knowledge that the information in the accompanying schedules is incorrect.

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Attributes of Reorganization Bankruptcy (chapters 11, 12, and 13)

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chapter 11 - business or highly wealth or tons in debt individual (so much debt looks like a business - sole proprietor for instance)

chapter 12 - farmer

chapter 13 - Individual

- D keeps its/their stuff (remember, it is not liquidation)
- and result is that D gets a discharge.

BUT - D must present PLAN which over some period of time in future, D will make stream of payments to Cs whereby Cs receive AT LEAST WHAT THEY WOULD GET IN A CHAPTER 7 LIQUIDATION (in today's dollars).

Preserves D as a going concern but C is entitled to insist on this last part - no worse off and save the company (particularly with chapter 11).

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Commencing a Bankruptcy Case

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(1) Voluntary
- pre-petition debt counseling mandatory for individual debtor in order to sucessfully file
- File Bankruptcy Petition for relief from creditors (commences case - automatic stay arises by operation of law)
- BR petition supplemented by required schedules (certain required information)

(2) Involuntary Cases
- Requisite Number of Creditors:
(a) If D has 12 or more creditors, then at least 3 of creditors must join in (also must have requisite aggregate debts)
(b) If fewer than 12 creditors, then it takes only one creditor to force D into bankruptcy (same amount of requisite debts)

Who is a creditor that counts - any creditor who is undisputedly (unarguable - no doubt) owed money)

- Requisite Grounds: case will be kicked out unless creditors can show 1 of 2 things:
(a) failure to pay debts (unable to pay debts as they come due - fact question - argue facts)

or

(b) appointment of a custodian (receiver under state law who has been appointed by state court to take over debts)

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Documents to be Filed by Debtor:

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When a bankruptcy petition is filed, the debtor incurs a duty to file:
(1) List of creditors
(2) Schedule of Assets and Liabilities
(3) Schedule of the Debtor's Financial Affairs (including a certificate of having received notice of the purpose and benefits of bankruptcy, the services offered by credit counseling agencies, and the penalties for concealing assets or swearing falsely)
(5) Copies of pay stubs received from an employer within 60 days before date of filing;
(6) Itemized statement of monthly net income;
(7) Statement disclosing any reasonably anticipated increase in income or expenditures for the 12 months after filing;
(8)A record of any interest that the debtor has in an education individual retirement account (529 plan) or a qualified state tuition program (like MPACT);
(9) If the D is an individual, a certificate from the nonprofit budget and credit counseling agency that provided the D credit counseling services, along with any plan of repayment developed by the agency; and
(1) If the D is an individual and has debts secured by property, a statemetn of her intentions with repect to the property (i.e., the D must specifiy whether she intends to retain or surrender the property, claim it as exempt, redeem it, or reaffirm the debt).

Note - generally, if an individual debtor in a voluntary chapter 7 case fails to file any of the items specified in (1)-(7), within 45 days after filing petition, the case is automatically dismissed on the 46th day. Any party in interest may request the order of dismissal.

Also, most recent tax return must be provided and any subsequent tax returns must be provided upon request.

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WHO is involved in a bankruptcy case?

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Debtor - person who filed for relief

Creditor(s) - secured and unsecured/trade creditors (priority claimants and nonpriority claimants)

United States Trustee ("UST") - watchdog
- official of US Justice Department
- can appear in any case for any matter

Chapter 7 Trustee - normally a lawyer (not D's lawyer) who is automatically appointed in a chapter 7 case (randomly assigned from list) and owes fiduciary duties to creditors, particularly unsecured creditors.

Standing Chapter 12 & Chapter 13 Trustees - not automatic and typically ONE trustee over all cases.

Trustee in chapter 11 = the "Debtor in Possession" ("DIP") - designed for corporations/businesses - D's manager acts as DIP (owes fiduciary duties to creditors)

Debt Relief Agencies (under 2005 BAPCPA amendments):
- Definition: agent who is paid to render bankruptcy advice to a debtor.
- Role: help D file bankruptcy case (sign agreement, fees)

NOTE - being a DRA comes with certain ethical duties and obligations & disclosures (See US v. Milavetz 2010)

D's Lawyer in chapter 7 (ROLE): certify D's eligibility and represent D in disputes with trustee (issues of nondischargeability and exempt property typically)

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Other Initial Matters:

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- Bankruptcy petition must contain certain information (schedules)

- First Meeting of Creditors ("Section 341 Meeting"): convened very shortly after case filed by UST where any party in interest, but esp. creditors, can question/examine debtor under oath (depose) NOTE - judge not allowed at this.

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First Meeting of Creditors

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(341 Creditors' Meeting) - within a reasonable time after entry of the order for relief, the UST convenes what is called the "first meeting of creditors." BR judge may neither preside at nor attend this meeting. At the meeting in a chapter 7 case, the trustee and creditors have an opportunity to orally examine the debtor to ensure the debtor is aware of the consequences of and alternatives to receiving a discharge in bankruptcy.

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What is Automatic Stay?

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injunction against ANY attempt of ANY sort to collect pre-petition debts or to try to grab property of the estate.

It arises automatically upon filing petition (by operation of law - no judicial action necessary).

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Why do we have the automatic stay? (purpose)

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The policy behind the AS is that all actions against the D should be halted, pending the determination of creditors' rights and the orderly administration of the estate's assets free from creditor interference (a "breathing spell"). Another purpose is to protect the D from the harassment and financial pressures that drove the D to bankruptcy in the first place.

The AS, however, DOES NOT alter the substantive rights of the creditors. Instead, it only interrupts collection activities while the bankruptcy is pending.

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When does Automatic Stay arise?

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It arises automatically by operation of law. No notice is necessary for the automatic stay to be binding on creditors.

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What are the penalties for violating the automatic stay?

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Unintentional Violations: 5th Circuit Sykes v. Global Marines Rule - Unintentional violations are voidable, meaning the foreclosure sale/creditor action will stand as long as the Bankruptcy court would have lifted the stay if proper procedures had been followed. (Contrast this with other circuits who hold such violations are void, meaning the action is undone.)

Intentional violations - creditors may be hit by consequential damages as well as attorneys' fees and punitive damages (punished).

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Relief from the Automatic Stay

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On motion by a party in interest, after notice and a hearing, a court may grant relief from the automatic stay.

An order granting relief from the stay benefits only the party who applied for it and covers only the activity specified in the motion. Such an order is itself stayed for 10 days after entry, unless the court orders otherwise. [BR Rule 4001(a)(3)]

A court will modify the AS on motion by a creditor only on certain grounds.

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Grounds for Lifting Automatic Stay

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(1) for "cause, including adequate protection" (of parties having an interest in the property - normally secured creditors)

(2) Alternate grounds - debtor has NO EQUITY in the property AND the property is not necessary for an effective reorganization.

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What is adequate protection?

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Protection of collateral
- can be physical/actual protection, such as requiring insurance to maintain collateral
- can be monetary: secured creditors are entitled to protection of their monetary interest in the collateral (entitled to payments from D equal in amount to the decline in value - if not, stay lifted for lack of adequate protection)

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Misc. Automatic Stay Info:

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A creditor whose claim is secured by a real property interest is entitle to relief from a stay if the BR petition was party of a scheme to delay, hinder, or defraud creditors that involved either multiple filings affecting the property or transfer of an interest in the property without the consent of the secured creditor or the court.

No serial filings.

Failure to file statement of intention - If the D is an individual, the stay is terminated with respect to personal property that secures a claim or is subject to an unexpired lease if the D fails to file a statement of intention within 30 days after the petition is filed or fails to take the action specified in the statement within 30 days after 341 creditors' meeting. (Note - stay does not terminate merely b/c the D files an intention to reaffirm and C refuses to agree.

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Exceptions to the Automatic Stay

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The automatic stay does not apply to certain actions, the most common of which include:
- Criminal prosecution cases
- Est. paternity/DSO cases
- Child custody/visitation or domestic violence
- Dissolution of marriage (except to the extent that such proceedings seek to determine the division of property that is property of the bankruptcy estate)
- Collection of DSO from non-estate property
- Reporting overdue child support obligations to a consumer reporting agency (credit report)
- Taking steps to MAINTAIN perfection of an interest in property
- Tax assessments for tax returns or tax audit
- Enforcement of a security interest in real property if the D is violating a PREVIOUS bankruptcy ruling prohibiting him from filing BR again, or within the past 180 days: (1) a previous case was dismissed for willful failure to appear or abide by court orders, or (2) the D obtained a voluntary dismissal after the filing of a motion for relief from a stay; and
- Eviction proceeding based on endangerment or illegal use of controlled substances on the property, or the continuance of an eviction proceeding in which a landlord obtained a judgment of possession before the filing of the BR petition.

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What is a claim?

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"a right to payment," whether liquidated, unliquidated, matured, unmatured, contingent, etc.

If there is any possibility that a person might be owed money, then they are a claimholder/creditor.

In order to assert claim, claimholder must file a proof of claim (back of notice form) and supporting documentation.

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Effect of Filing a Proof of Claim

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presumption prima facie evidence of validity of creditor's claim.

This means, the trustee must object to any

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Duration of the AS

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AS protect PROPERTY OF THE ESTATE so long as it remains property of the estate.

AS protects the Debtor and property of the D until the earliest of: the closing of the case, the dismissal of the case, or in the case of an individual, when a discharge is granted or denied. In a chapter 11 case, this can be several years.

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Utility Services

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The D is protected against the loss of telephone, electric, gas, and other utility services solely b/c of nonpayment of bills for prebankruptcy service. As long as the utility receives adequate assurance within 20 days after the order for relief that bills will be paid for postbankruptcy service, such as by making a cash deposit, the utility may not terminate service.

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What is an administrative claim?

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The court may allow claims for expenses incurred in connection with the administration of the estate. Administration expenses include the necessary costs of preserving assets, wages for services performed for the trustee after the commencement of the case, tax obligations incurred by the estate postpetition, and compensation for the trustee's attorney, accountant, or other professionals.

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Exceptions to the Discharge

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At some point, a BR proceeding results in a discharge of a debtor's debts. However, certain debts are not discharged in Chapter 7 cases (so called "exceptions".) The most likely to arise on bar exam include:
- Taxes
- Debts incurred through Fraud, Embezzlement, and Larceny
- "Luxury Goods" purchased within 90 days of Bankruptcy
- Cash Advances within 70 days of BR (open-ended credit to consumers)
- Unscheduled Debts (any debts not listed on BR schedules)
- Domestic Support Obligations (DSO) and Property Settlements Arising from Divorce
- Willful and Malicious Injury to property or person
- Liabilities incurred while operating boat, aircraft, or motor vehicle while intoxicated by drugs or alcohol
- Fines and Penalties owed to governmental unit
- Student Loans ("undue hardship test")
- Previous Denial of Discharge
- Debt incurred to pay tax
- Non DSO divorce or separation obligations

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What is a DSO?

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Debtor for domestic support obligations and property settlements arising from a divorce or separation are nondischargable.

A "DSO" is a debt that is owed to a spouse, former spouse, child of the debtor (or child's parent, guardian, or responsible relative), or a governmental unit, in the nature of alimony, maintenance, or support.

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Student Loan Undue Hardship Dischargability Test

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Code does not define, but the following 3 prong test has emerged:
(1) Inability to maintain a minimal standard of living if forced to repay the loan;

(2) Additional circumstances exist indicating that hte state of affairs is likely to persist for a significant portion of repayment period;

(3) Debtor has made good faith efforts to pay.

(Brunner v. New York State Higher Education Services Corp., 831 F.2d 395 (2d Cir. 1987)).

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What is an administrative claim?

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The court may allow claims for expenses incurred in connection with the administration of the estate. Administration expenses include the necessary costs of preserving assets, wages for services performed for the trustee after the commencement of the case, tax obligations incurred by the estate postpetition, and compensation for the trustee's attorney, accountant, or other professionals.

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Exceptions to the Discharge

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At some point, a BR proceeding results in a discharge of a debtor's debts. However, certain debts are not discharged in Chapter 7 cases (so called "exceptions".) The most likely to arise on bar exam include:
- Taxes
- Debts incurred through Fraud, Embezzlement, and Larceny
- "Luxury Goods" purchased within 90 days of Bankruptcy
- Cash Advances within 70 days of BR (open-ended credit to consumers)
- Unscheduled Debts (any debts not listed on BR schedules)
- Domestic Support Obligations (DSO) and Property Settlements Arising from Divorce
- Willful and Malicious Injury to property or person
- Liabilities incurred while operating boat, aircraft, or motor vehicle while intoxicated by drugs or alcohol
- Fines and Penalties owed to governmental unit
- Student Loans ("undue hardship test")
- Previous Denial of Discharge
- Debt incurred to pay tax
- Non DSO divorce or separation obligations

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What is a DSO?

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Debtor for domestic support obligations and property settlements arising from a divorce or separation are nondischargable.

A "DSO" is a debt that is owed to a spouse, former spouse, child of the debtor (or child's parent, guardian, or responsible relative), or a governmental unit, in the nature of alimony, maintenance, or support.

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Student Loan Undue Hardship Dischargability Test

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Code does not define, but the following 3 prong test has emerged:
(1) Inability to maintain a minimal standard of living if forced to repay the loan;

(2) Additional circumstances exist indicating that hte state of affairs is likely to persist for a significant portion of repayment period;

(3) Debtor has made good faith efforts to pay.

(Brunner v. New York State Higher Education Services Corp., 831 F.2d 395 (2d Cir. 1987)).

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Shotgun Exceptions" to Discharge

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Results in a Complete Denial - bankruptcy discharge is enforced through a permanent injunction against collecting a prepetition debt. However, there are situations and behavior that can lead a debtor receiving NO discharge of ANY debts:

(1) Debtor is NOT an individual (only individuals can receive a discharge);

(2) D transfers, destroys or conceals property "with intent to hinder, delay, or defraud creditors" [proof is very difficult];

(3) No books and records of financial affairs/failure to explain loss of assets;

(4) Bankruptcy Crimes;

(5) Taking the Fifth or disobeying the court (can invoke your right but will lose privilege of a discharge);

(6) Prior discharge under chapter 7 within 8 years;

(7) Prior discharge under chapter 12 or 13 within 6 years, unless paid creditors in full (everything owed) or debtor paid creditor 70% and it was best D could do under the circumstances ;

(8) Waiver of discharge, but only enforceable if waiver signed AFTER BR petition filed;

(9) Failure to Complete financial management course;

(10) Violation of securities laws within the past 5 years (think Enron) - will have their homestead exemption limited to $125,000.

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Reaffirmation of Discharged Debts

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Sometimes a D wants to reaffirm an obligation that otherwise would be discharged by the D's bankruptcy case (e.g., to maintain a good relationship with a specific creditor). Reaffirmation of obligation is permissible if certain requirements are met, including the following:

(1) Reaffirmation agreement must have been made after BR case filed but BEFORE granting of the discharge;

(2) the agreement must contain clear and conspicuous provisions that reaffirmation is not mandatory and that the D has the RIGHT TO RESCIND a reaffirmation agreement any time prior to discharge or within 60 days after the agreement is filed with the court by giving notice of rescission to the clamholder;

(3) Upon a discharge, the court must hold a reaffirmation hearing and inform a reaffirming D that reaffirmation is NOT REQUIRED BY LAW, and must advise the D of the legal effect of reaffirmation. HOWEVER, if the D is REPRESENTED BY COUNSEL, a reaffirmation hearing is NOT REQUIRED, but counsel must file an affidavit with the court that she has fully advised the D of the effect of reaffirmation; and

(4) in the case of a consumer debt (except for a debt secured by a real estate mortgage) where the D is not represented by counsel, the COURT MUST APPROVE the reaffirmation agreement upon a determination that it does not impose undue hardship on the D and is in the D's best interest.

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Property of the Bankruptcy Estate

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Consists of any and all legal and equitable rights (interests) of D in property as of BR filing (regardless of who actually has it and whether it is tangible or intangible)

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What about property acquired DURING bankruptcy?

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Individual chapter 7 case - post petition property, including wages, is NOT property of the estate.

NOTE - military retirement pay uniformly held to be post petition is NOT property of the estate.

Individual chapter 11 and chapter 13 cases - post petition property IS property of the estate until case ends.

Inheritances, life insurance, and property settlements in chapter 7 - IS property of the estate IF received within 180 days of BR filing.

NOTE - as a general rule, courts will apportion property that can be attributed to pre petition work but that was paid post petition. If it is a bonus that was wholly discretionary, then it is not property of the estate, but if D had a contract right to it or it was customarily paid, then apportioned.

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Personal property subject to a PMSI -

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must be reaffirmed or redeemed within 45 days of filing bankruptcy or the property is no longer property of the estate (and therefore not under protection of automatic stay) - creditors can get to it.

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Exemptions

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The individual debtor is entitled to keep certain property so as to protect her from complete destitution.

The bankruptcy code gives the D a choice b/t TWO exemption systems: state and federal, but the Code also provides that a state may enact legislation that limits its citizens to the exemptions provided by state law.

All jurisdictions - debtors may keep retirement and education savings plans (public policy).

In MS< any property which is exempt under MS exemption law, including the homestead exemption of $75,000 of equity in a homestead - D can keep/ exempt under BR law.

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Trustee's Avoiding Powers

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(1) Hypothetical Lien Creditor Status

(2) Trustee's Power Over Fraudulent Transfers

(3) Trustee's Power to Avoid Preferential Transfers

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Trustee as Hypothetical Lien Creditor

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This status gives the trustee the power to avoid (wipe off from collateral) unperfected security interests.

In essence, any security interest in the D's personal property that is unperfected on the date the petition is filed is void as against the trustee because a lien creditor would have priority over the unperfected security interest. (However, like a lien creditor, the trustee is subject to retroactive perfection as provided by nonbankruptcy law, such as UCC article 9 sections allowing retroactive perfection of a PMSI in noninventory collateral).

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Trustee as Hypothetical BFP of Real Estate

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Whether or not such a purchaser exists, the trustee is given the rights of a BFP of the D's real property (other than fixtures) as of the date the BR petition is filed. This means that any transfer or interest in real estate that may be avoided by a BFP may be avoided by the Trustee.

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Trustee's Power Over Fraudulent Transfers (section 548)

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The D is not free to conceal or transfer her property for the purpose of preventing creditors from satisfying their legal claims. Consequently, attempts by the D to hinder, delay, or defraud creditors may be avoided by the trustee who seeks to recover the property so concealed or transferred for the benefit of the estate.

Reach back period is two years. Thus, while there is actual transfers, there are also constructive transfers: which is the transfer of D's property with in 2 yrs of BR for less than the reasonable equivalent value @ time D was insolvent. (charitable contributions excluded).

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Rights Of Good Faith Transferees for Value

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Person receiving constructive value (honest, good faith - the innocent) receives a lien for value given (gets $$ back).

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Statutory Liens

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generally valid against trustee.

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Seller's Right to Reclaim Goods Under UCC

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Unpaid sellers have a right under Article 2 of the UCC to reclaim goods sold to an insolvent buyer. Such a right is valid under the Bankruptcy Code subject to certain rules.

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Trustee's Power to Avoid Preferential Transfers

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A preference is a transfer of a debtor's interest in property for or on account of an antecedent debt made or suffered by the D while insolvent and within 90 days (or 1 yr - insider) before the filing of BR petition, the effect of which enables a creditor to obtain a greater percentage of his debt than he would have received otherwise in a liquidation case. The trustee has the power to avoid such preferences.

PURPOSE - protect other creditors of the D and to treat creditors equally.

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Elements of Voidable Preferences:

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(1) A transfer of the D's interest in property - a transfer includes both voluntary and involuntary transfers, such as creating a judicial lien on the D's property. Also, retaining a security interest in property sold to D is considered a "transfer" of a security interest by the D.
(2) to or for the benefit of a creditor
(3) for or on account of an antecedent debt
(4) while the D was insolvent. - for preferential purposes, a D is presumed to have been insolvent at all times within 90 days prior to filing.
(5) made within 90 days before the date of the filing of the petition
(6) that enables the creditor to receive more than the creditor would have received in a liquidation (99% meet this b/c it means otherwise all unsecured c's would have been paid in full or the transfers are pmts to an oversecured creditor)

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Exceptions to Preference Statute

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(1) Ordinary Course of Business
(2) Contemporaneous Exchange for New Value (paying for goods by check at the time of sale)
(3) PMSI (perfected within 30 days after D receives possession)
(4) Subsequent New Value (lines of credit)
(5) Floating Liens (after-acquired property interest)
(6) DSO
(7) Statutory Lien
(8) Transfers by Consumer Debtors
(9) Transfers/Payments Made According to a Voluntary Repayment Schedule by a Nonprofit Counseling Service

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Issues Specific to Chapter 7 Cases

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(1) Eligibility - just about any D except railroads, insurance cos, and banks are eligible in a voluntary case, while anyone is able to file an involuntary case except farmers and charitable nonprofits.

"Substantial Abuse" - an individual MAY NOT file a chapter 7 case if they fail a statutory MEANS TEST

(2) Order of Distribution

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"Substantial Abuse" and chapter 7 means test:

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An individual may not file a chapter 7 case if they file a statutory means test. In such cases, individual must file a chapter 13 case. Abuse if presumed if the D could pay back $10,000 or more over 5 years AND the D makes more than the median income for a family of similar size in their home state.

Presumption is there b/c Congress believed there is a class of D's that could pay creditors back more than what they would get in chapter 7 liquidation - force those ppl to file 13.

NOTE - if presumption does not apply, abuse may be established by showing that the D filed in bad father or by establishing lack of good faith under totality of circumstances.

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Order of Distribution in Ch 7 Liquidation

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(1) Secured Creditors get paid in full first (get their collateral or cash equal to its value before any other creditor receives a nickel - a right - entitled to insist upon that).

(2) Priority Unsecured Creditors receive payments in the order found in section 507 of the Code. Each class of priority creditors get paid in full before nay member of the next class below receives a nickel.

(3) General Unsecured Creditors only receive a distribution once all classes of unsecured priority creditors are paid in full.
- timely proofs of claim first
- proof of claims filed late
- claims for fines, penalties, forfeitures, or punitive damages
- claims for interest that accrues after petition is filed

(4) If there is money left over, the residue goes to the debtor (i.e, D is solvent - no requirement D has to be/show insolvency to file).

NB - at whatever point there is not enough to pay the next class in full, the rule is to distribute the remaining money on a pro rata basis.

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Priority Order (10):

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Certain unsecured claims that get paid before general unsecured claims:
(1) DSO
(2) Administrative Expenses
(3) Involuntary Gap Claims
(4) Wage Claims
(5) Contributions to Employee Benefit Plan
(6) Claims against Operators of Grain or Fish Storage Facilities
(7) Consumer Deposits
(8) Tax Claims
(9) Captial Requirements of INsured Depository Institution
(1) Personal Injury Claims resulting from Intoxicated Operation of Vehicle

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Effect of a Discharge

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Discharge relieves a debtor of personal liability for any debts that are discharged and serves a permanent injunction against creditors, prohibiting them from taking any action to recover a discharged debt from the debtor. (Note - discharge does NOT affect liability of co-debtor, surety, or guarantor).