An owner in our community filed for bankruptcy...what can and should we do? Even though the worst of the real estate crisis is behind us, this is still a common question facing association boards. Ever heard of an "automatic stay?" How about the owner doesn't want to pay assessments because they "surrendered" the property to the bank? Or, had an owner say "I don't have to pay assessments anymore because I filed for bankruptcy?" Click on the jump for a complete tutorial on bankruptcy for community associations....
First, some basics about bankruptcy. The US Supreme Court, and various other courts, have quoted that the
"principal purpose of the Bankruptcy Code is to grant a 'fresh start' to
the 'honest but unfortunate debtor'." While it seems the "unfortunate
debtor" may be arguable to many in the present economic environment,
nonetheless, that's the ideal.
In its most basic sense here's how
bankruptcy works. It all begins when the debtor a/k/a
owner files a petition for bankruptcy. The petition date is
the proverbial line in the sand. In that petition the debtor is supposed to
list each and every one of their financial assets and liabilities. A suggestion of bankruptcy is
sent to all the listed creditors and without any other court action there is an automatic stay that
occurs. The automatic stay is a temporary injunction that halts all collection
efforts of creditors against the debtor. (yes, there are
some exceptions to the stay like tax issues, alimony, etc., but no,
none of them apply to community associations). This includes sending
demand letters, filing and perfecting liens, filing foreclosure actions. It's
arguable whether sending a regular invoice violates the stay but in my
experience don't do that either.
The automatic stay serves two purposes: 1)
give the debtor some relief from the collection efforts of the creditors, and
2) allow for an orderly process for creditors to line up and make claims
against the debtor/"bankruptcy estate" via the bankruptcy trustee. The automatic
stay prevents a literal race of the creditors to collect. During this time,
creditors and the amounts they are owed are put into buckets of priority 1)
non-dischargeable debts (i.e. student loans, alimony, child support), 2)
secured debts (i.e. mortgages and lien holders, people with specific assets
they can collect against), and last 3) unsecured (i.e. credit cards).
Once these creditors have all made their
claims, the bankruptcy trustee looks at all the assets of the debtor, takes out
certain minimum allowances for a car, furniture, and a few personal
possessions, and then figures out a way to sell and divvy up the remaining
assets to the creditors in order of the priority above. The creditors get
paid usually some percentage less than what they are owed, the rest of the
debts are "discharged" from the debtor, meaning the creditor can no
longer collect those amounts against that person individually, and everybody
moves on.
There's two major types of bankruptcy that
debtors file: 1) Chapter 7; and 2) Chapter 13. Chapter 7 is called a
liquidation bankruptcy and Chapter 13 is a restructuring bankruptcy. In Chapter
7, debtors typically have no assets. It's a very stream lined process designed
for relatively low income people. In
Chapter 7, creditors rarely get paid.
The Chapter 13 is a little more
complicated. Chapter 13 bankruptcies are for people with a little higher
income, some assets, and the ability to repay creditors over time.
Usually they end in some type of repayment plan for the creditors. Most
repayment plans are for 5 years/60 months. The figure out how much the debtor
can pay each month to get caught up on their debts. They will then take
the amount and figure out how much can be paid to each creditor. It typically
ends up that each creditor will get a fraction of what they are owed, payable
over 5 years.
- Example - owner/debtor owes association $5,000 when they file for
bankruptcy. The bankruptcy trustee ultimately decides that all creditors
will get .80/dollar and the repayment plan will be over 5 years. The
debtor will make its payments to the trustee each month. Then the trustee
will divide that payment amongst the creditors each month. The
association will get monthly payments of $66.66 from the trustee for 60
months. Keep in mind though, this is ONLY for the debtor prior to the
filing of bankruptcy. The
owner is always responsible for each and every payment AFTER the petition
for bankruptcy.
So those are the general ideas behind bankruptcy, the purpose of
filing, how each chapter works, and setting the expectation when each situation
should arise.
Here are a few dos and don’ts:
- When you get a petition for bankruptcy DON’T panic.
- DO create a PACER account. PACER is the federal database for
bankruptcy court filings. It's free to light uses and you can track and
follow bankruptcy matters there.
- DON’T send any demand letters, file files, foreclose, or continue
pending foreclose matters.
- If you need to contact the owner/debtor DO it through their
attorney which can be found on the PACER system above.
- If it's a Chapter 13, DO contact an attorney to file a proof of claim.
- An owner CANNOT be forever discharged from paying
assessments.
Otherwise, if you
have questions contact a specialized association attorney or bankruptcy
attorney for guidance.
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ReplyDeleteGreat article. I appreciate you mentioning that the right representative on our side makes a tremendous difference in the process, and I completely agree. If I was going bankrupt, I’ll make sure to hire the right bankruptcy lawyer. Thanks for sharing!
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