Previously I wrote about the basic bankruptcy terms. This article covers more advance topics related to creditors in bankruptcy and protecting their interests.
Proof of Claim:
A proof of claim is exactly as the name suggests, it is a document that a creditor fills out and files with the bankruptcy court to prove that the debtor owes the creditor money. While the form is short, properly filling out the form is critical, because a mistake can wipe out the creditor’s claim. In addition to the one page form, most creditors will be required to attach additional supporting documents such as the promissory note and an accounting of the interest, expenses, and the amount previously paid by the debtor.
Chapter 13 Plan:
Perhaps the most important part of a Chapter 13 Bankruptcy is what is known as the Plan. Because a Chapter 13 is an attempt to reorganize debt (as opposed to liquidating assets in a Chapter 7), the debtor must propose a plan to repay creditors. Bankruptcy litigation often will take place during the Plan confirmation process because once the Plan is confirmed, the Plan will determine which creditors get paid, how much they get paid, and over what time period. The plan, which can last anywhere from 3 to 5 years will detail the specific monthly payments the Debtor will make and to which debtors and when. So, for example, if a creditor holds a note secured against a property owned by the debtor, and the plan provides for $5 monthly payments, on the approval of the plan the court debtor would be paid $5 per month, even if before they were being paid $100.
Further, if you are a creditor secured by real estate, the plan can involve sale of the asset in a certain timeframe to pay off the lien. However, even if you are a secured creditor, your interest can be wiped out or substantially reduced through the plan through a “Cramdown” or “Lienstrip.”
Cramdown:
Perhaps one of the scariest words to say to a secured lender in bankruptcy is the word “Cramdown”. However, while many creditors cringe at the word, it is not necessarily something that will hurt the creditor in the long run. A cramdown is where the value of the creditor’s interest is reduced to the value of the asset.
For example, if the property is worth $500,000, and there is a first loan for $400,000, a second loan for $200,000, and a third loan for $100,000, the first loan could not be reduced, the second loan would be subject to a cramdown, bifurcated to $100,000 secured and $100,000 unsecured, and the third loan would be subject to a lienstrip motion. The debtor’s ability to move for a cramdown or a lienstrip is determined by a few different factors, such as whether they occupied the property at the time the petition was filed.
In addition to a cramdown on the principal amount of the loan, the interest rate can also be reduced. While this is initially negative for a lender, it may end up helping the lender such as during the present “down” economy. This is due to the simple fact that the amount crammed down must be repaid within the bankruptcy plan period of 3 to 5 years. Most lenders would rather have monthly (albeit reduced) payments than take back an asset during a bad economy.
Further, the Plan payments may not be sustainable in the long run, causing the debtor to fall out of bankruptcy. If the debtor does not complete the plan, then the cramdown is not completed either and the amount owed to the creditor returns to the pre-bankruptcy amount.
Lienstripping:
Similar to a cramdown, a lienstrip is a motion that does just what it sounds like, it strips a lien from a property. This means that while your loan, prior to bankruptcy, may have been secured against the property, after the lienstrip motion is granted, it no longer is secured against anything. The only real defense a lienstrip motion, if the debtor qualifies for lienstripping, is to dispute the value of the collateral and demonstrate that the loan is secured against some amount of property. Even if there is a dollar of equity to secure the loan, that would be sufficient to defeat a lienstrip motion. Additionally, a lienstrip motion is applicable only to a Chapter 11 or 13 debtor and cannot be used to strip a lien secured against the debtor’s primary residence.
While there are many other important terms in the bankruptcy context, understanding these terms will help you have a productive and hopefully efficient conversation with your bankruptcy attorney. If you think you or a friend may need legal assistance regarding such matters, don’t hesitate to contact Brewer Offord & Pedersen LLP at (650) 327-2900, or on the web at www.BrewerFirm.com.
