Bankruptcy 18 Under early common law in Great Britain

Bankruptcy 18 Under early common law in Great Britain

Bankruptcy 18 Under early common law in Great Britain, individuals who were unable to pay their debts were subject to incarceration in debtor’s prisons until they (or their family and friends) paid their debts. While this practice punished irresponsible individuals, it also caused much hardship to the innocent families of delinquent debtors. They would often be left with no means of support when the primary breadwinner was jailed and denied the ability to make a living. Eventu- ally, therefore, this practice was abandoned and was replaced by bankruptcy laws.

In the United States, Article I, Section 8 of the U.S. Constitution gives Congress the power to create uniform laws regulating bankruptcy. Today, bankruptcy law in the United States is codified in the U.S. Bankruptcy Code (Title 11 of the U.S. Code) and was most recently amended by the Bank- ruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA, the Bankruptcy Act). The Bankruptcy Act is divided into “chapters” that have numbers to indicate their applicability. For example, Chapter 7 deals with straight bankruptcy or liquidation, which involves the discharge of a debtor’s debts to pay off creditors; Chapter 11 concerns itself not with the liquidation or forgive- ness of debt but rather its reorganization or restructuring in order to allow the debtor to continue in business; and Chapter 13 involves the adjustment of debt, similar to Chapter 11 reorganization but available only to individual debtors with regular income.

In this chapter, we will survey the essential provisions of Chapters 7, 11, and 13 and see how the Code provides relief to both creditors and debtors under each of these different types of bankruptcy. Table 18.1 provides a summary of the chapters.

Table 18.1: Types of bankruptcy available under BAPCPA

Chapter 7 Chapter 11 Chapter 13

Commonly called Straight bankruptcy or liquidation; “fresh start”

Reorganization or restructuring

Adjustment of debt

Applies to Individuals or businesses Individuals or businesses Only individuals with a steady income stream

How it works All the debtor’s assets are sold by the trustee to pay off the creditors

Debtor works with a committee to reorganize the business and pay off debts

Individual reorganizes payments to creditors

Who brings the proceeding

Either debtor or creditors Either debtor or creditors Debtor only

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18.1 Chapter 7 Liquidation

A Chapter 7 liquidation proceeding is often referred to as a “fresh start.” One reason is that it allows individuals and businesses who are unable to meet their financial obligations to have their debts discharged. Discharged is an essential term in bank- ruptcy. It means that the debtor no longer has any legal obligation to pay the debt. The ultimate goal of Chapter 7 bankruptcy proceedings, then, is to be discharged from all of one’s debts. Chapter 7 begins by turning over substantially all the debtor’s property to a trustee with the oversight of the bankruptcy court in order that it may be sold for the ben- efit of the debtor’s creditors. Suppose the debtor refuses to file for bankruptcy or to pay off debts? In that case, a measure of protection is also afforded to the debtor’s creditors, who may force liquidation proceedings under certain circumstances when a debtor is unable or unwilling to repay his or her debts.

Who May Bring Chapter 7 Proceedings?

Chapter 7 applies to all debtors, whether an individual, partnership, corporation, or other business entity. There is no requirement that the debtor be insolvent. Insolvency means that the debtor is unable to pay his or her debts as they become due. Nor is there a minimum amount of debt required to voluntarily file, although it is highly unlikely that anyone would go to the trouble of filing for bankruptcy unless he or she had seri- ous financial problems. Liquidation proceedings under Chapter 7 may be brought by the debtor (voluntary liquidation) or by the debtor’s creditors (involuntary liquidation). In order for creditors to force liquidation on a debtor, the debtor must have a minimum combined unsecured debt of $12,300. If the total number of creditors is 12 or more, three creditors to whom the debtor owes an undisputed, combined, unsecured claim of at least $12,300 must join in the petition for involuntary liquidation. If there are fewer than 12 creditors with an aggregate debt of at least $12,300 in unsecured debt, then any one or more creditors may file a petition. Consider the following example.

Adam owes Betty $2,300, Carla $10,000, and Don $12,300. If the debt to the three creditors is unsecured (e.g., not backed by a security interest such as a mortgage on real property or a lien on personal property), and Adam is unable to pay his debts when they become due to all three creditors, Betty and Carla can force Adam into Chapter 7 bankruptcy (or Chapter 11 reorganization), since their combined debts are at least $12,300. Don alone could also force Adam into Chapter 7 or Chapter 11 involuntary bankruptcy or reorganiza- tion, since Adam’s debt to him meets the minimum amount for an involuntary petition.

Becoming a Debtor in Bankruptcy Court

To initiate a voluntary Chapter 7 bankruptcy proceeding, the debtor must file a petition with the bankruptcy court that includes a schedule of assets and liabilities, a statement of current income and expenditures, and a statement of financial affairs. To give you an idea of the cost of such a proceeding, the court charges $245 to file for Chapter 7 bankruptcy, a $46 administrative fee, and a $15 trustee surcharge. One of the ironies of bankruptcy law is that many people do not have the money to file and thus cannot avail themselves of the benefits of having their debts discharged.

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In the paperwork the debtor files, he or she must list all creditors and what is owed to each of them. This paper is called the schedule of creditors and is very important for the following reasons:

1) It is the list that the trustee will use to notify creditors of the bankruptcy proceed- ing. If a creditor is not on the list, it will not receive notice; and

2) The debtor is discharged only from those debts appearing on the list. If the debtor does not report a debt and its corresponding creditor, that creditor will “survive” the bankruptcy. This means that this particular debt was not discharged and the debtor still owes the creditor, thus defeating the very purpose for which the debtor sought relief in bankruptcy court. Therefore, it is to the debtor’s benefit to list every single debt and creditor.

By law, some debts are not discharged in bankruptcy. These include student loans. This means that even if a debtor listed a student loan on the schedule of creditors, the loan would nevertheless survive the discharge and the debtor would have to continue paying. The only exception is in cases of undue hardship. To prove undue hardship, the debtor must file a petition to request a bankruptcy court hearing to determine whether not dis- charging the debt would be an undue hardship. An example of undue hardship would be a 60-year-old with college debts of $50,000 who is working for minimum wage. Such a person has reached his or her peak earning potential, and thus, this large a debt could be deemed an undue hardship.

Becoming a Creditor in Bankruptcy Court

Once creditors have been notified of the bankruptcy, they must file a form called a Proof of Claim to maintain any rights against the property. Failure to file will result in that creditor being discharged without ever going to court or taking part in the proceedings. This makes sense if the debtor has no money and the creditor decides that nothing will be gained by appearing.

Once the time period for creditors to file their Proof of Claim passes, the trustee contacts all the creditors who have filed so that they can come to court for a meeting of creditors. This usually takes place in the courtroom, where the debtor is put under oath and takes the witness stand. As a businessperson, you may be called to take part in one of these proceedings. The creditors can ask the debtor questions about the whereabouts of any assets and the likelihood of payment. This proceeding often becomes quite heated, as the creditors look around the room and realize that there are perhaps hundreds of other creditors all vying for the defendant’s assets. It is interesting to note that the majority of Chapter 7 bankruptcy proceedings involve assets that are exempt or subject to valid liens (by secured creditors), thus leaving nothing for unsecured creditors to recover. In short, for many creditors, there is little likelihood of payment.

Appointing an Interim Trustee

After a voluntary or involuntary petition for relief is filed with the bankruptcy court, the court will issue an Order for Relief. As a businessperson attempting to collect a debt, this paper effectively shuts down the ability to collect on the debt. Instead, it gives the debtor “time off” from having to pay, which is why it is also called a stay. During the stay,

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the bankruptcy court appoints an interim trustee whose responsibility it is to collect the nonexempt property of the debtor. The idea behind collecting all the debtor’s property, of course, is that the debtor cannot dispose of it or hide it, and that it can be sold and the proceeds used to pay the creditors on a prorated basis. The stay continues in effect until the final adjudication (decision) by the court.

Debtors facing the loss of property in a bankruptcy proceeding may be tempted to hide or dispose of property so that it is not taken by the court to pay off creditors. The gen- eral rule is that an impermissible, fraudulent transfer is one in which “the debtor, with intent to hinder, delay, or defraud a creditor . . . has transferred . . . or has permitted to be transferred . . . property of the debtor, within one year before the date of the filing of the petition” (11 U.S.C. § 727(a)(2)(A)). Some of the indicia of a fraud include transferring property either without payment or to a family member or close associate.

Bankruptcy Decrees

At the time the petition for bankruptcy is filed with the court, an automatic stay goes into effect, and creditors must cease trying to collect from the debtor. The stay remains in effect until the final decree is entered, which on average takes four to six months. If it is found that the debtor is both insolvent and has fulfilled his or her obligations under the Code, such as the disclosing and turning over to the trustee all nonexempt property, the court enters a bankruptcy decree, or final decision. (Most bankruptcies never go to trial.) The final decision permanently discharges all of the debtor’s outstanding debts and allows creditors to recover what is owed to them. Each creditor will receive a prorated share of the creditor’s debt from the proceeds of property, which was turned over to the trustee to sell. Creditors are paid in the following order:

1. Secured creditors, to the extent of their security interest; 2. Allowed unsecured claims for domestic support obligations, e.g., for spousal or

child support and the trustee’s approved administrative expenses; 3. Administrative expenses of the estate (court costs, attorney’s fees, and related

expenses); 4. Gap creditors’ claims (a gap creditor is someone who became a creditor in the

normal course of business after the filing of the bankruptcy petition but before the court appointed a trustee);

5. Up to $10,000 in unpaid wages, salaries, or commissions earned by employee creditors within 180 days prior to the filing for bankruptcy or 180 days from the date of the cessation of the debtor’s business, whichever occurred first; and

6. All other unsecured claims of creditors.

In the event that funds are insufficient to pay all the members of a class their full debt, the debt is prorated for the members of the class. For example, suppose that an estate has only $1,000 left when it comes time to pay the holders, and the debtor owed $1,000 to the state in unpaid income taxes and $500 to the local government in unpaid real property taxes (assuming for the moment that both take equal priority). Then, the state would get two- thirds of the remaining sum and the local government one-third: $666.67 to the state and $333.33 to the local government.

In most bankruptcies, the debtors cannot pay off the creditors. Nevertheless, when the bankruptcy is final, the debtor is discharged under Chapter 7 as long as that debtor is an

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individual. (If the debtor is a corporation or a partnership, there is no discharge.) This is a very important concept. Discharged means that all of the debts that were filed by creditors and considered by the court are now over and done with. There is no further obligation to pay them. Thus, being discharged in bankruptcy is the ultimate goal of a debtor in Chap- ter 7. On the downside, a judgment of bankruptcy goes on the debtor’s credit report for seven years and makes it difficult for the debtor to rebuild his or her credit rating.

Debtor’s Property Exempt From Attachment

The basic principle behind Chapter 7 is that a debtor turns in to the court whatever non- exempt real and personal property he or she owns to be sold for the benefit of his or her creditors, and in return has his or her debts forgiven. Forcing a debtor to turn in all of his or her worldly possessions in order to be granted the protection of Chapter 7 might cause a severe hardship for debtors, who would be left penniless and possibly without the means of earning a living—in effect, acting like a debtor’s prison without bars. The Bankruptcy Act therefore allows debtors to keep some of their property, as regulated by federal and state law, as a homestead exemption. The property that a bankrupt debtor is allowed to keep, even after filing, is called exempt property because it is not subject to the Bankruptcy Act. The following list of property exempt from Chapter 7 bankruptcy liquidation derives from 11 U.S.C. § 522(d)(1–12):

Homestead:

• 522(d)(1)(5): Real property, including mobile homes and co-ops, or burial plots up to $21,625; unused portion of homestead, up to $10,825, may be used for other property;

• 522(d)(2): Motor vehicle up to $3,450; • 522(d)(3): Animals, crops, clothing, appliances and furnishings, books, household

goods, and musical instruments up to $550 per item, and up to $11,525 total; • 522(d)(11)(D): Personal injury recovery up to $21,625, except for pain and suffer-

ing or for pecuniary loss; • 522(b)(3)(C): Tax-exempt retirement accounts, including 401(k)s, 403(b)s, profit-

sharing, and money purchase plans; • 522(d)(10)(A): Public assistance, Social Security, veteran’s benefits, and unem-

ployment compensation; • 522(d)(6): Implements, books, and tools of trade, up to $2,175; • 522(d)(10)(D): Alimony and child support needed for support; • 522(d)(7): Unmatured life insurance policy except credit insurance; • 522(d)(8): Life insurance policy with loan value up to $11,525; • 522(d)(10)(C): Disability, unemployment, or illness benefits; and • 522(d)(11)(C): Life insurance payments for a person you depended on, which you

need for support.

Note that the dollar amounts above, along with dollar amounts in other key sections of the Code, are adjusted by April 1 every three years by the Judicial Conference of the United States based on the Consumer Price Index. The new rates, rounded to the nearest $25, have been published in the Federal Register by March 1 every three years starting in 1998 and can be viewed here: https://www.federalregister.gov/articles/2010/02/25/2010-3807/revision-of-certain- dollar-amounts-in-the-bankruptcy-code-prescribed-under-section-104a-of-the-code.

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Recall that the Bankruptcy Act is federal law. States also have their own bankruptcy rules. As a result, states can provide different exemptions or definitions of exempt and nonex- empt property to debtors if they choose to do so that can be more or less generous than the federal exemptions. As of this writing, 16 states (including the District of Columbia) allow filers to choose between the state exemption and the federal exemption, while 35 states have passed legislation restricting filers to the state exemptions only.

18.2 Chapter 11 Reorganization

Unlike Chapter 7 liquidation, which allows for the forgiveness of debt, Chapter 11 restructures the debts under different terms than those originally incurred and formulates a plan for their repayment. A reorganization of debt often involves changing the way a debt is repaid. This could include extending the debt’s term in an attempt to provide businesses some needed breathing room to keep them afloat and pre- vent Chapter 7 liquidation.

Who May Bring a Chapter 11 Proceeding?

Any person who qualifies for Chapter 7 protection may also file under Chapter 11, except for stockbrokers and commodity brokers, who are specifically excluded. The paperwork is extensive, as the debtor must file numerous documents with the court:

1. Schedules of assets and liabilities; 2. Schedule of current income and expenditures; 3. Schedule of executory contracts (contracts to be performed in the future) and

unexpired leases; and 4. Statement of financial affairs.

The cost to file a Chapter 11 bankruptcy is $1,000 in addition to administrative fees.

Once the debtor files the petition, he or she becomes what is called a debtor in possession, meaning in charge of his or her own assets while the reorganization is being processed. The debtor in possession of a Chapter 11 bankruptcy performs many of the same func- tions as a bankruptcy trustee in other types of bankruptcy. The debtor in possession is monitored by a U.S. Trustee, who makes sure that regular reports are made to the court and holds a meeting of the creditors.

Appointing a Committee of Creditors

After the court enters an Order for Relief, the U.S. Trustee appoints a committee of creditors, which holds unsecured claims against the debtor. The trustee may also appoint other committees of creditors if he or she deems it appropriate (such as when there are many creditors with different classes of claims). In addition, the court can order the trustee to appoint additional committees at the request of any party in interest. According to 11 U.S.C. § 1102(b)(1), this committee “shall ordinarily consist of the persons, willing to serve, that hold the seven largest claims against the debtor of the kinds represented on such [a] committee.”

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This committee (or committees) serves as the primary negotiating body in formulating the reorganization plan. The committee has two main roles:

1. Consulting with the debtor in possession about how he or she is operating his or her business and what plans he or she has for paying off the debts; and

2. Helping to formulate a plan to pay off the debts.

The committee of creditors has broad powers to investigate the debtor and to study the feasibility of a reorganization plan. If such a plan is deemed feasible by the creditors, the committee is then primarily responsible for coming up with and submitting a specific plan of reorganization for the debtor.

Appointing a Trustee or Examiner

After the case is started, but before the court approves a final reorganization plan, a trustee or examiner is appointed. The court can appoint a trustee either for cause, if it believes that current management has acted with fraud, dishonesty, incompetence, or gross mis- management of the affairs of the debtor (before or after the case commenced), or simply if it believes such an appointment to be in the best interests of the creditors. If a trustee is not appointed and the debtor is allowed to continue managing the business, then any interested party may request the appointment of an examiner to investigate any allega- tions of fraud, dishonesty, incompetence, misconduct, mismanagement, or irregularity in the management of the affairs of the debtor, or by current or former management of the debtor; this is also possible if the court believes the appointment of an examiner will be in the interest of any interested party or if the debtor’s unsecured debts exceed $5 million.

Duties of Trustees and Examiners If a trustee is appointed, he or she is given the following duties:

1. Account for all property received; 2. Examine proofs of claims of creditors and object to any that are deemed

improper; 3. Furnish information about the estate and estate administration at the request of

any party in interest; 4. Furnish information to the court, to the U.S. Trustee, and to any interested gov-

ernment agencies entitled to collect taxes, periodic reports, and summaries about the operation of the debtor’s business, including information about business receipts and disbursements;

5. Make a final report and a final account of the administration of the estate to the court and to the U.S. Trustee;

6. Provide notice to any party entitled to receive domestic support from the debtor about the discharge and notice that it does not extinguish the domestic support obligations of the debtor;

7. Continue to perform the obligations of a debtor who served as an administrator of an employee benefit plan at the time of the filing of the Chapter 11 petition;

8. Use all reasonable best efforts to transfer patients from a health care business that is in the process of being closed to an appropriate health care business that provides similar services with a reasonable quality of care in the vicinity of the closing health care facility;

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9. File a list of the debtor’s creditors; a schedule of the debtor’s current assets, liabilities, income, and expenses; and a financial statement (if the debtor has not already done so);

10. Investigate the acts, conduct, assets, liabilities, and financial condition of the debtor, the operation of the debtor’s business, the desirability of the continuance of the business, and any other matter relevant to the case or to the formulation of a plan;

11. Report the results of his or her investigation to the court and to creditors’ com- mittees, equity security holders’ committees, indenture trustees, and any other entity the court designates;

12. File a plan or report why a plan cannot be formulated, recommend conversion to liquidation (Chapter 7) or to an individual repayment plan case (Chapter 13), or recommend dismissal. (If the trustee formulates a plan or reorganization, he or she will do so in consultation with the debtors.) (11 U.S.C. § 1106(a)(1–8))

If an examiner is appointed instead of a trustee, the examiner has the following duties:

1. Investigate the acts, conduct, assets, liabilities, and financial condition of the debtor; the operation of the debtor’s business and the desirability of the con- tinuance of the business; and any other matter relevant to the case or to the formulation of a plan; and

2. Report the results of his or her investigation to the court and to creditors’ commit- tees, equity security holders’ committees, indenture trustees, and any other entity the court designates. (11 U.S.C. § 1106(b))

Filing of Reorganization Plan

As is true of liquidation, reorganization may be voluntary or involuntary. A Chapter 11 case may be begun voluntarily by a debtor filing a plan of reorganization at any time (even after an involuntary case has begun). The debtor is given an exclusive right to file a plan within the first 120 days from the court’s Order for Relief granted upon the proper filing of a case under this chapter. Other interested parties may also propose a plan under certain circumstances: if a trustee has been appointed, if the debtor does not meet the 120-day deadline, or if the debtor meets the 120-day deadline but fails to obtain approval of the plan by the creditors within 180 days of the court’s Order for Relief. The court may extend or reduce these time periods, however, for cause, meaning a very good reason. A court may extend the 120-day deadline to a maximum of 18 months and the 180-day dead- line for up to 20 months from the date that it grants the Order for Relief.

Acceptance and Confirmation of Reorganization Plan

Before it becomes effective, a reorganization plan must be accepted by the members of each class of debtors that the plan will affect. For a class of creditors to accept the plan, not less than half of the members of a class who together hold a minimum of two-thirds of the total amount of debt for the entire class must vote to accept the plan.

After a reorganization plan is accepted, it must be confirmed by the court. A plan will be confirmed by the court only if it is found to meet minimum criteria:

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1. The plan complies with the applicable provisions of Chapter 11; 2. The proponent of the plan complies with all applicable provisions of Chapter 11; 3. The plan has been proposed in good faith; 4. All costs and expenses under the plan are approved by the court as reasonable; 5. The identities and affiliations of any individuals who will serve as a director,

officer, or voting trustee of the debtor serve as successors to the debtor under the plan or participate in any joint plan with the debtor;

6. The identities and compensation of any insiders that will be retained under the reorganization plan by the debtor are disclosed;

7. Debtors in each class have either accepted the plan or will be guaranteed a mini- mum claim under the reorganization as they would have received under Chapter 7 liquidation; and

8. Confirmation of the plan is not likely to be followed by liquidation or further financial reorganization in the future.

Effect of Reorganization Plan’s Confirmation

Once a plan is confirmed, the debtor and all creditors are bound by its terms. Debts of the debtor that arose before the filing for Chapter 11 reorganization are excused after all required payments under the plan are made, except as specifically provided for in the reorganization plan or under the provisions of the Bankruptcy Act (e.g., some tax liability is not dischargeable for corporate debtors under Chapter 11). Unlike in Chapter 7 pro- ceedings, the debtor in Chapter 11 proceedings retains ownership of his or her property and may continue in business under the specific guidelines of the reorganization plan. In the event that the debtor is uncooperative, the court may simply dismiss the case.

A Closer Look: Chapter 11 for an Illegal Business

Courts may face a number of unusual situations when dealing with Chapter 11 proceedings. For example, what happens when a court is asked to reorganize a business with an illegal purpose? Read this Wall Street Journal article from June 13, 2012, about a medical marijuana grower’s Chapter 11 bankruptcy case and then consider the questions that follow:

http://blogs.wsj.com/bankruptcy/2012/06/13/judge-puts-out-marijuana-grower%E2%80%99s- chapter-11-case/.

Questions to Consider

1. What type of bankruptcy were the debtors in this case seeking and why? 2. What was the problem faced by the court in assisting with the reorganization of this company? 3. If you had been the judge in this case, how would you have decided? Why?

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18.3 Chapter 13 Adjustment of Debts of an Individual With Regular Income

The next bankruptcy chapter concerns individuals who choose not to file under Chap-ter 7 and lose their property but who instead wish to have a reorganization similar to a Chapter 11 proceeding. This is called Chapter 13, which allows an individual with regular income to file a plan with the court for the adjustment of debt. If the plan is approved, the individual’s debts will be forgiven if he or she honors the repayment plan approved by the court.

Who May Bring Chapter 13 Proceedings?

Chapter 13 proceedings may be brought by any individuals (other than stock brokers or commodity brokers) who have a stable income from wages or other reliable sources that would allow them to meet their obligations under a repayment plan. For purposes of this chapter, persons on a fixed income (those receiving pensions, Social Security, dis- ability, or public assistance) all qualify as persons having a regular income. Such income can be derived from self-employment in a business (provided such income is steady and reliable), but the business entity itself cannot be the subject of the reorganization. (As we have just seen, business reorganization would, of course, be covered by Chapter 11 of the Bankruptcy Code.)

In addition to the requirement of a regular income, the total unsecured debt for an indi- vidual (or an individual and a spouse filing jointly) must be less than $307,675, and the total secured debt must be less than $922,975.

Instituting Chapter 13 Proceedings

Unlike Chapter 7 and Chapter 11 proceedings, which may be instituted voluntarily at the request of the debtor, or involuntarily at the request of the creditors, Chapter 13 proceedings may be brought only voluntarily by the debtor. The rationale for not permitting involuntary Chapter 13 cases is perhaps best expressed in the U.S. Senate’s own report on Section 303 of the Bankruptcy Act, which governs the commencement of involuntary cases:

Involuntary Chapter 13 cases are not permitted. . . . To do so would constitute bad policy, because Chapter 13 only works when there is a willing debtor that wants to repay his creditors. Short of involuntary servitude, it is difficult to keep a debtor working for his creditors when he does not want to pay them back. (S. Rep. No. 95-989)

Lest it seem unfair to deny creditors the ability to bring an involuntary case under Chap- ter 13, keep in mind that they can bring either an involuntary Chapter 7 or an involuntary Chapter 11 action. The purpose of Chapter 13 is to make it simpler for debtors who meet the eligibility criteria to come up with a voluntary plan to reorganize their debts without having to jump through all the hoops required of a business by the standard Chapter 11 reorganization.

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Filing, Contents, and Confirmation of the Plan

To initiate a Chapter 13 bankruptcy, the debtor must file a plan for the adjustment of debts. The debtor’s plan must contain the following provisions:

1. The debtor must provide for the submission of all future income (or as much of it as necessary to effectuate the plan) to the trustee;

2. The plan must provide for the deferred payment of all claims entitled to a prior- ity under § 507 of the Bankruptcy Code unless the holders of such claims agree to different treatment;

3. If the plan classifies claims, it must provide identical treatment for all claims of a particular class;

4. The plan may provide for less than full payment to a priority claim for sup- port under § 507(a)(1)(B) if the plan provides that all of the projected disposable income of the debtor will be applied to make payments under the plan for five years; and

5. The plan may not provide a payment period longer than three years (although the court may extend the period to not more than five years if the debtor can show cause).

The court will confirm the debtor’s plan for the repayment of debts if it meets the follow- ing criteria:

1. It complies with the provisions of Chapter 13 and other applicable provisions of the Bankruptcy Code;

2. All required fees that must be paid before confirmation have been paid; 3. The plan has been proposed in good faith by the debtor; 4. The amount payable to each unsecured claim is not less than the amount that

would have been paid if the estate of the debtor were liquidated under Chapter 7;

5. The holders of secured claims provided for in the plan have accepted the plan; 6. The debtor will be able to make all payments under the plan and comply with

the plan; 7. The debtor’s action in filing the petition was in good faith; 8. The debtor has paid all amounts required to be paid under domestic support

obligations; and 9. The debtor has filed all required federal, state, and local tax returns.

Payments by the Debtor

Unless a court orders otherwise, a debtor is required to commence making payments within 30 days of filing the proposed plan or the order for relief, whichever is earlier. Payments are made to the trustee in the amount proposed by the plan. Payments due for leases of personal property are paid directly to the lessor, with evidence of payment sent to the trustee. Payments made to the trustee are held by the trustee until the plan is con- firmed by the court, at which time the trustee is charged with distributing those payments as soon as practicable.

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If the plan is confirmed, the trustee will continue to receive payments as provided for under the plan and distribute these to the debtors in accordance with the provisions of the plan. If the plan is not approved by the court, however, the trustee must return all monies received from the debtor (minus the trustee’s allowable fee).

Discharge and Refiling

After the debtor makes the final payment under the terms of the plan, the court will issue an order discharging the debtor from all debt covered by the plan. A court may also grant a discharge even before the debtor completes the agreed-upon payments under the plan. The court can do so if it finds that the debtor’s failure to keep making payments is brought about by circumstances for which the debtor should not be held accountable, as long as each creditor has been paid an amount equal to what it would have received under a Chapter 7 liquidation or Chapter 11 reorganization of the debtor’s estate.

Debtors whose debts are discharged by a Chapter 7 bankruptcy and subsequently get into additional economic difficulties can file for Chapter 7 bankruptcy protection again after eight years from the bankruptcy decree and can file for Chapter 11 or Chapter 13 reorga- nization after only six years from a discharge in bankruptcy.

18.4 Bankruptcy Abuse Prevention and the Consumer Protection Act of 2005

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (Pub. L. No. 109-8) went into effect on October 17, 2005. The intent of Congress in passing the act was to address the increase in consumer bankruptcy filings that in 1998 had reached the 1 million mark for the first time. According to U.S. House of Representatives Judiciary Committee Report 109-031, bankruptcy filings doubled in the decade preceding passage of the act and reached 1.6 million filings in fiscal year 2004. The act was an attempt by Congress to make bankruptcy filing a matter of last resort in order to stem the losses for creditors that result from abusive use of bankruptcy filings. Such expenses do not vanish into the air but are passed on to all consumers in the form of higher interest rates, higher prices, and higher down payments required for consumer goods and services.

Credit Counseling Requirement

The act makes it harder and more expensive to file for bankruptcy in a number of ways. For example, it requires individuals to complete credit counseling with an agency approved by the U.S. Trustee’s Office prior to filing for Chapter 7 or Chapter 13 protection. A second counseling session on personal financial management is required at the conclusion of the bankruptcy case before a discharge order is entered.

In the following excerpts from the case In re: Lane (Slip Copy 2012 WL 1865448, Bkrtcy, N.D. Okla. 2012), the failure to follow the credit counseling rules mandated under the BAPCPA resulted in the dismissal of the bankrupt debtor’s petition.

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Section 18.4 Bankruptcy Abuse Prevention and the Consumer Protection Act of 2005 CHAPTER 18

Cases to Consider: In re: Lane

In re: Lane, Slip Copy 2012 WL 1865448, Bkrtcy, N.D. Okla. (2012)

Excerpted opinion: The Court must determine whether Ms. Lane was eligible to be a debtor under Title 11 of the United States Code at the time she filed her petition, and, if not, whether her post-petition actions operated to make her eligible. While the Court sympathizes with Ms. Lane’s situation, it concludes that her case must be dismissed.

Background On March 16, 2012, Jaclyn S. Lane (“Debtor”) filed a petition for relief under Chapter 7 of the Bank- ruptcy Code, which was file stamped at 8:02 p.m. CDT. As part of her petition, Debtor filed a form titled Exhibit D, which includes a certified statement, made under penalty of perjury, that she had received a briefing from an approved credit counseling agency “[w]ithin the 180 days before the filing of [her] bankruptcy case,” and that she had a certificate from the agency that describes the services provided to her.

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Discussion In enacting the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (“BAPCPA”) Congress created a new pre-filing credit counseling requirement for all individual debtors seeking bankruptcy protection. As enacted, (the law) provided that, with certain exceptions an individual could not be a debtor under any chapter of the Bankruptcy Code unless he or she had received an approved briefing (commonly referred to as “credit counseling”) “during the 180-day period preced- ing the date of filing of the petition. . . .” Where none of the statutory exemptions applied, many courts, including this Court, adopted a strict interpretation of the 180-day provision. These courts routinely dismissed cases when debtors were found to be ineligible, whether because the credit counseling was taken outside the 180-day window, was taken from an unapproved source, or was taken post-petition without requesting a waiver and meeting the requirements of (the statute).

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Section 109 sets forth a fairly straightforward requirement that an individual must receive a brief- ing regarding credit counseling from an approved source during the 180-day period ending on the date of filing of the petition. Although it appears that Debtor has actually obtained two such brief- ings, neither of them falls within the statutory bounds of § 109(h). Debtor argues that because she got close, both by taking the course too early and too late, the Court should adopt a test that finds she has met the requirement in spirit. Courts that adopt such tests tend to conclude that the credit counseling requirement is of such little value that its enforcement is completely elective. With all due respect, it is not the role of this Court to question the wisdom of the eligibility requirements found in § 109. Instead, “when the statute’s language is plain, the sole function of the courts—at least where the disposition required by the text is not absurd—is to enforce it according to its terms.” While the dismissal of this case may cause additional expense and burden to the Debtor if she chooses to file again, such an outcome can hardly be considered absurd. In the absence of something akin to abuse of the bankruptcy system, it is not the Court’s place to consider waiving such a requirement. (continued)

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Section 18.4 Bankruptcy Abuse Prevention and the Consumer Protection Act of 2005 CHAPTER 18

Means Testing

The new rules also require a means test before individuals can file for Chapter 7 protec- tion. Individuals who do not pass the means test (whose monthly income over allowed expenses is higher than the act allows) are precluded from filing for Chapter 7 protection and are limited to a Chapter 13 or Chapter 11 filing. The valuation of personal property not subject to attachment also changed under the act to reflect the property’s retail market value (what it would cost to purchase the property in its used condition at retail) rather than the old measure of value as what a consumer could sell the property for at an auc- tion. This change raised the valuation of exempt property over that of the old system, making filers able to keep less personal property under the allowed exemptions.

State Residency Requirements

Because state exemptions vary widely, especially with regard to the homestead exemp- tion (the equity value on a primary residence that the filer is allowed to keep), the act sets up limits on the ability of filers to shop for a friendlier filing venue. The time period required for a resident to live in a state prior to being able to claim the state exemptions was increased from three months under the prior law to two years. And residence for 40 months is required prior to being able to claim a given state’s homestead exemption. Fil- ers who do not meet these new time limits may use only the exemptions from the state in which they lived during the statutory period prior to the filing.

Other Restrictions

The new rules give priority to spouses and children of debtors over all unsecured credi- tors with regard to alimony and child support payments. The rules also require that law- yers who represent bankruptcy filers personally attest to the accuracy of the information

Cases to Consider: In re: Lane (continued)

Conclusion The Court concludes that even if it has discretion to waive the credit counseling requirement of § 109(h)(1) in some circumstances, such circumstances are not present in this case. In the absence of a valid exemption or other waiver under § 109(h)(2–4), the Court finds that Debtor is not eligible to be a debtor under Title 11 of the United States Code, and that her case shall be dismissed.

Read the full text of the case here: http://www.leagle.com/xmlResult.aspx?page=1&xmldoc=In%20 BCO%2020120522694.xml&docbase=CSLWAR3-2007-CURR&SizeDisp=7.

Questions to Consider

1. What does the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) require individuals to do?

2. What did the debtor in this case fail to do? 3. What was the result of that failure? 4. In your opinion, are the requirements under the act a worthy addition to the law or not? Why?

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Key Terms CHAPTER 18

provided in the bankruptcy filing. This new requirement subjects the lawyer to potential liability for false or fraudulent information contained in the filing and effectively forces the attorney to verify the accuracy of critical information provided by the client. This change will significantly increase the workload required for filings and, therefore, the cost to clients seeking the protection of the Bankruptcy Act. In addition, the increased personal and professional liability risk to attorneys may result in fewer attorneys will- ing to practice in the bankruptcy area in the future as well as significantly higher costs to consumers seeking the relief of the bankruptcy courts. Since the enactment of BAPCPA in 2005, the number of consumer filings for bankruptcy has decreased; however, few data are available to show whether this is the result of the act’s credit counseling or attorney attestation requirements.

Key Terms

Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) A federal amendment to the Bankruptcy Code that makes it more dif- ficult and expensive to file for bankruptcy and requires all debtors to engage in credit counseling.

Bankruptcy Code Title 11 of the U.S. Code, which was amended by BAPCPA in 2005.

bankruptcy decree A final decision in a Chapter 7 bankruptcy entered by the bank- ruptcy court, permanently discharging all the debtor’s outstanding debts and allow- ing creditors to recover.

Chapter 7 bankruptcy A type of bank- ruptcy that is also called a “fresh start” because it involves paying off creditors with whatever money or assets are avail- able and being discharged from whatever debts remain.

Chapter 11 bankruptcy A type of bank- ruptcy that includes reorganization (restructuring) of debt and paying off creditors.

Chapter 13 bankruptcy A type of bank- ruptcy for individuals with stable income that allows them to reorganize their debt according to an agreed-upon plan with creditors and the court.

committee of creditors In a Chapter 11 proceeding, a group of unsecured creditors appointed by the bankruptcy court that consults with the debtor about how debts will be paid off.

confirmation of a reorganization plan The bankruptcy court approval of a Chapter 13 plan submitted by the debtor.

debtor in possession In a Chapter 11 pro- ceeding, a debtor who is allowed to keep his or her assets while the reorganization is being processed.

discharged When the debtor no longer has any legal obligation to pay the debt; the goal of bankruptcy proceedings.

exempt property Property of the debtor that is not subject to the bankruptcy proceeding and therefore survives the bankruptcy.

fraudulent transfer A transfer of prop- erty made by the debtor to try to hide the property from the bankruptcy court and creditors.

gap creditor A person who becomes a creditor in the normal course of business after the filing of the bankruptcy petition but before the appointment of a trustee.

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Key Terms CHAPTER 18

homestead exemption The amount of equity value on a primary residence that the filer is allowed to keep; set by state law.

insolvency Inability to pay debts as they become due.

interim trustee During a stay, a bank- ruptcy court–appointed person whose responsibility it is to collect nonexempt property from the debtor.

involuntary liquidation When creditors force a debtor into Chapter 7 bankruptcy, requiring that person to sell off his or her assets.

liquidation Process whereby a debtor’s assets are sold to pay off creditors.

means test Under the BAPCPA, how the debtor must show that his or her monthly income, compared with allowed expenses, is not higher than the act allows and thereby enables Chapter 7 filing.

meeting of creditors Bankruptcy court proceeding in which the defendant answers questions set forth by the creditors.

nonexempt property Property of the debtor, other than personal residence, that is subject to the bankruptcy proceeding and therefore can be taken from the debtor.

Order for Relief A bankruptcy court order that effectively shuts down the abil- ity to collect on the debt, giving the debtor time off from payment; also called a stay.

Proof of Claim A form filed with the bankruptcy court by creditors to verify their claims against the defendant.

reorganization A Chapter 11 bank- ruptcy proceeding in which the debts are restructured through a plan to facilitate repayment.

reorganization plan The court- and creditor-approved plan for how the debtor will pay off his or her debts.

restructuring See reorganization.

schedule of assets and liabilities A form filed with the bankruptcy court that sets forth the debtors’ property and debts.

schedule of creditors A form filed with the bankruptcy court that lists the names and addresses of creditors as well as how much money is owed to each.

stay A bankruptcy court order that effec- tively shuts down the ability to collect on the debt, giving the debtor time off from payment; also called an Order for Relief.

U.S. Trustee Appointee who makes sure that regular reports are made to the court and holds a meeting of the creditors.

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Critical Thinking and Discussion Questions CHAPTER 18

Critical Thinking and Discussion Questions

1. Which chapter of Title 11 of the U.S. Code deals with liquidation? With reorganization?

2. What is the basic difference between Chapter 7 and Chapter 11? 3. Name four of the duties of a trustee under Chapter 11 reorganization

proceedings. 4. What provisions must be contained in a debtor’s plan under Chapter 13? 5. Under the federal exemptions listed under the Bankruptcy Act, how much of the

equity in a homeowner’s primary residence is exempt in a Chapter 7 filing? Are these exemptions governed by state law as well?

6. Peter Penniless filed for bankruptcy under Chapter 7. At the time of filing, his assets subject to attachment totaled $3,000. His debts included the following: $2,500 in allowed administrative expenses in bringing the case; $5,000 to Visa, $4,000 to MasterCard, and $1,000 to American Express in unsecured debt.

a. How much of the administrative expense claim will be paid? Explain. b. How much of the unsecured debt will be paid to the credit card creditors?

Explain. 7. Beautiful Homes, Inc., a business providing home decorating services that is

wholly owned by Jenny Chang, finds itself in financial difficulties. Its assets, including the goodwill of the business, its long-term commercial lease, and its account receivables, total $150,000, but the total debts of the business are $250,000. Although the business is generally healthy, Jenny’s problems stem primarily from her having financed a recent expansion through short-term, variable-interest loans just before interest rates began to rise. The result is that she can no longer meet the monthly payments on her loans.

a. Under the facts given, would Jenny be wise to file for Chapter 7 protection of her business? Explain.

b. Should Jenny file for Chapter 11 protection of her business? Explain. c. Could Jenny file for Chapter 13 protection of her business enterprise? Explain. 8. Debby Debtor has just been informed that her $75,000 per year middle-

management position is being eliminated as part of her company’s downsiz- ing. Debby’s basic assets include a car worth $20,000, $30,000 equity in her home, $10,000 in CDs, and $2,000 in savings. Her monthly payments on her home, car, credit cards, utilities, and property taxes total $2,500. Her total unsecured debt is $20,000, and her secured debt (primarily her home and auto financing) is $300,000. Afraid that she will need many months to find another job and that selling her home in the present real estate market in her area would not be feasible, she is considering filing for protection under the Bankruptcy Act.

a. May Debby file under Chapter 7? Should she? b. May she file under Chapter 11? Should she? c. May she file under Chapter 13? Explain fully.

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