Category Archives: Chapter 11 Bankruptcy in Kansas City

Leases In Chapter 7 Business Cases In Kansas And Missouri

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Overland Park Business Bankruptcy Attorney

The legal issues surrounding leases in bankruptcy cases can depend on what type of bankruptcy is being talked about. Chapters 7, 13, and 11 each have separate rules and procedures with regard to leases. In a Chapter 7 case, the bankruptcy trustee has the option of assuming the debtor’s interest in the lease or curing any default under it. In practice, this only happens on rare occasions with commercial leases (not residential leases). Chapter 7 trustees almost never bother with residential leases, since they provide no value to the estate. In commercial lease situations where the rent provided under the lease is significantly below the market rate, or where the premises have some sort of value to the estate in a business liquidation, this type of thing is possible in theory.

In a Chapter 7 business liquidation, the trustee has the right to commandeer the premises and use them for storage or for a bankruptcy sale. Here again, this rarely happens. Even in a liquidation, it often happens that by the time the case is filed, there is little value to the estate that can be had by operating the business. In situations where Chapter 11 cases are converted to Chapter 7, or where the business has a large amount of liquidation value, this can change. When the bankruptcy petition is filed, the landlord is prevented by the automatic stay from attempting to enter the premises and repossess the inventory or equipment on the premises, even if the rent has not been paid and a state court has ordered the debtor to be evicted.

The Chapter 7 trustee can use the leased premises to store the property until it can be sold, if it has significant value for the estate. If the trustee does not assume the lease of the business, and uses the premises for storage, it may not be easy for the landlord to collect rent from the trustee. The trustee typically claims that the estate is only liable for a lower amount, or only for the period in which the trustee was actually in possession. And if there is not enough funds in the estate to pay for the expenses of administration, then the amount might not be paid. Landlords and their attorneys are often unfamiliar with the nuances of bankruptcy law and their rights under it.

They may be unpleasantly surprised to find out that their statutory landlord lien is invalid in bankruptcy. Rent arrearages that may exist at the time of the filing of the case might get treated as a general unsecured claim in the estate, which usually amounts to very little in recovery.  A landlord subject to the automatic stay by the filing of a bankruptcy case cannot simply ignore it. This is true regardless whether he has received notice from the court. One of the basic purposes behind the automatic stay with regard to leases in Chapter 7 is to permit the trustee time to assess the condition of the premises and any property in it. Generally the trustee has 120 days to assume or reject a lease of nonresidential real property. The court can extend this for another 90 days if needed.

In business liquidation cases where a lease is involved, it is not always a simple matter for a landlord to collect rent during the time the trustee is in possession of the premises. In situations of nonresidential real property, the trustee has an obligation to “timely perform all the obligations of the debtor” arising under the lease, until the lease is assumed or rejected. In Re Cukierman, 265 F.3d 846 (9th Cir 2001). If the lease has significant value, it is even possible that the trustee may assume and the possibly assign or sell it. Before it can be assumed, he would have to cure any default under it, and compensate the landlord for any damages suffered by the breach of the lease.

If the property continues to be used by the trustee after the filing of the bankruptcy, it is possible that the landlord can request compensation under Section 503(b) of the Bankruptcy Code (administrative expense). The landlord would be entitled to the “reasonable value” of the use of the premises. This is not necessarily the rent amount specified in the lease agreement; in fact, it may be significantly less than this. And even if the estate can afford to pay the landlord administrative rent, claims will be based on the actual value received by the estate, not on the value that was lost by the landlord. However, the landlord may be entitled to “adequate protection” payments during the pendency of the case. As can be seen from this discussion, a landlord’s attorney will need to be aggressive and persistent if he wishes to recover anything for his client from the Chapter 7 trustee once a business liquidation is filed.

Read More:  Assigning An Executory Contract In A Chapter 11 Business Bankruptcy

Bankruptcy Appeals And The Appellate Process In Kansas And Missouri

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Johnson County Kansas Bankruptcy Lawyers

Under Section 158 of the Bankruptcy Code, appeals of bankruptcy court orders can be heard when the order if final, or when the order is “interlocutory” (with the leave of the District Court). In deciding when an order is final, courts take a realistic and pragmatic approach. Under Section 158(a)(3), an appeal from an interlocutory order can be heard only with leave of the court. Under this section, the district court or the bankruptcy appellate panel (BAP) can hear an appeal from an interlocutory order (a circuit court of appeals’ jurisdiction is limited to final orders). Thus, under F.R. Bankr. P. 8001(b) and 8003(a), an appellant must file a notice of appeal under Rule 8002, and also file a motion for leave to appeal.

Bankruptcy appeals can technically be heard in three possible forums: the local district court, the BAP of the circuit, or to the circuit’s court of appeals in some situations. As a practical matter, most bankruptcy attorneys will find themselves raising issues of bankruptcy law before the BAP, which operates in both the Eight Circuit (Missouri) and the Tenth Circuit (Kansas). This is so because the issues raised in bankruptcy cases are often complex and specialized, and the BAP is specifically designed to be a forum for bankruptcy appellate law.  US District Court judges may not have had as much exposure to the issues presented.

The 2005 amendments to the Bankruptcy Code created a limited ability to appeal matters directly to the circuit courts. This would be in situations where there is no controlling authority on legal issues involved, or where the issue requires the resolution of conflicting decisions, or where an immediate appeal “may materially advance the progress of the case or proceeding.” 28 U.S.C. Section 158(d)(2).

The deadlines are given in F.R. Bankr. P. 8002. The deadline for filing the notice of appeal can be extended in situations of “excusable neglect”, but this should never be relied on. Pushing the envelope is never a good idea in dealing with deadline issues. In determining what is “excusable neglect”, a court will look at the danger of prejudice to a debtor, the length of the delay and any potential impact on judicial proceedings, the reason for the delay, and whether the movant is acting in good faith.

Perfecting an appeal requires that certain other steps be made. The issues to be presented on appeal must be stated, and the record must be identified that the appeals court is supposed to review. Under F.R. Bankr. P. 8006, the following things are part of the record of appeal:

  • Items designated by the parties
  • The notice of appeal
  • The order, judgment, or decree that is the subject of the appeal
  • Opinions, findings of fact, and conclusions of law by the court

The parties then wait for the appeal record to be docketed. The appeals brief is then filed. From past experience, we have found that calling the BAP court clerks with questions is a very pleasant experience. The lack of crowded dockets gives them the ability to become personally acquainted with many cases, and makes for productive communication.
In reviewing an order, judgment, or decree from the bankruptcy court, the appellate court reviews the legal issues de novo, the factual findings for “clear error”, and its exercise of discretion for “abuse.” In Re United Healthcare Systems Inc. 396 F.3d 247 (3rd Cir. 2005). If there are mixed questions of law and fact, the appellate court will defer to the bankruptcy court’s finding of facts unless those are “clearly erroneous.” Frivolous appeals are very rare, but may possibly be found when the “overwhelming weight of precedent is against [appellant’s] position, where appellant can set forth no facts to support its position, or where, in short, there is simply no legitimate basis for pursing an appeal. In Re Alta Gold Co., 236 Fed. Appx. 267 (9th Cir 2007).

Under F.R. Bankr. 8005, there is a mechanism for getting a stay of an order pending the outcome of an appeal. Appellants will want to do this to preserve their position. Requests for stays pending an appeal must ordinarily be made to the bankruptcy judge. The court then has the discretion to grant a stay pending the appeal. A party seeking a stay pending the appeal is asked to show:

  • It is likely to prevail on the merits of its appeal
  • It will suffer harm unless a stay is granted
  • A stay will not substantially harm other interested parties
  • A stay is not harmful to the public interest

All of these conditions need to be met. Once the appeal has been docketed and scheduled, the litigants appear before the BAP judges and make their arguments, relying on the points raised in briefs.

Read More:  Confidentiality Orders And Sealing Records In Bankruptcy Court

Interest Rates In Chapter 11 And Chapter 13 Cramdowns

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“Cramdown” is a term of art used to describe a situation in a Chapter 13 or Chapter 11 bankruptcy in which a secured creditor is being paid to the fair market value of the collateral secured by its claim, rather than the full loan balance. In a Chapter 11 plan, if the plan proposes to pay the secured claim in deferred cash payments, those payments would include post-confirmation interest at the “market rate.”

The market rate is a rate that the bankruptcy court considers fair in light of current market factors. In Re Hardzog, 901 F.2d 858, 860 (10th Cir. 1990); Till vs. SCS Credit Corp., 541 U.S. 465, 476 n. 14 (2004).

In the case of In Re American Homepatient, Inc., 420 F.3d 559 (6th Cir. 2005), the court determined that the Chapter 11 cram down interest rate should be market rate where there exists an efficient market; if a market does not exist, then a court should employ the “formula approach” described by the Till case for Chapter 13 cases.

Under this “formula approach”, the interest rate is set as the national prime rate adjusted to reflect risk posed by the debtor. Of course, secured creditors in a Chapter 11 or Chapter 13 case are never really going to be satisfied with this “market rate.” Several methods have been advanced by courts in determining how this “market rate” should be determined. We will describe each of these approaches.

Formula Approach. Under the so-called formula approach, as stated above, the court begins with a base rate (such as prime rate) and then adds points for “risks” posed by the debtor. The formula approach was adopted by the Second Circuit in In re Valenti, 105 F.3d 55, 64 (2nd Cir. 1997) and by the Tenth Circuit in In re Hardzog, 901 F.2d 858, 860 (10th Cir. 1990).

Cost of Funds Approach. Under this method, the rate is determined based on what interest the creditor would have to pay to borrow the funds. This approach is apparently not favored and has not been formally adopted by any circuits.

Coerced Loan Approach. There are two variations of the “coerced loan approach.” One variation is that the cram down interest rate is set as the same as the creditor would receive if it could foreclose and reinvest the proceeds in loans of equivalent duration and risk. Koopmans v. Farm Credit Servs., 102 F.3d 874, 875 (7th Cir. 1996). Another permutation on this approach is to examine the rate that the debtor would pay outside of bankruptcy to obtain a loan on terms comparable to those proposed in the Chapter 11 plan.

Presumptive Contract Rate Approach. Under this approach, the court begins with the pre-bankruptcy contract rate. This rate then creates a rebuttable presumption that either the creditor or the debtor can counter by persuasive evidence that the current rate should be different. In re Smithwick, 121 F.3d 211, 214 (5th Cir. 1997).

What is the guiding principle behind all of these approaches? Bankruptcy courts generally take the position that in reviewing reorganization and cramdown issues, it is important to balance the interest of the creditor in obtaining protection and compensation, while at the same time, setting an interest rate that is consistent with the fresh start offered by bankruptcy. There should be some consistency in approaches. Bankruptcy courts have the power to modify interest rates. There should be objective economic analysis applied, that weighs the risks of default with the fresh-start objective of bankruptcy.

Starting with the national prime rate of interest makes good sense. The “prime” rate (in the view of the Till case, cited above) is the “national prime rate, reported daily in the press, which reflects the financial market’s estimate of the amount a commercial bank should charge a creditworthy commercial borrower to compensate for the opportunity costs of the loan, the risk of inflation, and the relatively slight risk of default.” Till, 124 S. Ct. at 1960. “A bankruptcy court is then required to adjust the prime rate to account for the greater nonpayment risk that bankrupt debtors typically pose.” Id.

But how should this “risk adjustment” be determined? There are several factors that need to be weighed. The interest rate should be high enough to allow the creditor some relief, but not so high as to torpedo the plan. As discussed in Till, the following factors are normally relevant:

  • Circumstances of the estate. This term is rather vague, but presumably means any factor or issue that will impact on the debtor’s ability to perform on the loan, or otherwise increase risk.
  • Nature of the security. This means specific things directly related to the security. Value, depreciation characteristics, and the debtor’s use of the collateral are some of these things.
  • Duration of the plan. Inflation and expected market volatility are typically factors here.
  • Feasibility of the plan. This would be the projected likelihood of success, that is, the debtor’s ability to perform the terms of the plan.

Regardless of the methods used, the setting of a cramdown interest rate is important in both Chapter 13 and Chapter 11 cases. In Chapter 13 cases, the issue may not come up with as much frequency as in Chapter 11 cases.

This is because many jurisdictions already have procedures whereby “trustee’s discount rates” of interest may be used. However, even model Chapter 13 plan formats allow debtors to set their own rates. Chapter 11 cases typically allow more creativity (or freedom) in crafting interest rates that can assist in the success of a Chapter 11 plan.

Read More:  Assigning An Executory Contract In A Chapter 11 Bankruptcy

Lien Avoidances In Bankruptcy Under Sections 506(d) and 522(h)

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Avoiding liens can be an important part of the bankruptcy “fresh start.”  There is a variety of methods of lien avoidance in bankruptcy cases.  We will here discuss lien avoidance under two code sections, Section 506(d) and 522(h).  Under Section 506(d), liens securing disallowed claims are not valid.  There are some exceptions to this rule, however.

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Avoiding Liens In Bankruptcy Under Section 522(f)

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As part of his or her “fresh start” in bankruptcy, it is possible for a debtor to avoid liens on property securing dischargeable debts. If this is not done, the liens may pass through the bankruptcy and impair the debtor’s ability to move forward. Section 522(f) of the Bankruptcy Code is one of the principal ways that such liens may be avoided. This section of the code has four paragraphs.

Taken together, the section states how a debtor may avoid judicial liens against his or her exempt property to the extent that the lien impairs the debtor’s exemption. It should be noted here that we are speaking in this article only of Section 522(f). Liens may also be avoided by a debtor using other sections of the Bankruptcy Code, such as Sections 506(d) and 522(h). Knowing which section to use will depend on various factors, such as the nature of the lien, the type of bankruptcy filed, and the specific issues of the case.

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Bankruptcy Debtors Can’t Be Discriminated Against

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The Bankruptcy Code makes specific provision for the protection of debtors who file bankruptcy. One of those protections is the right not to be discriminated against once they file bankruptcy. It is comforting for debtors to know that they are protected by specific legal provisions that prevent anyone from discriminating against them or drawing adverse inferences about them once they file a case.

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Damages For Violations Of The Automatic Stay In Bankruptcy Cases

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The bankruptcy automatic stay is one of the most fundamental protections provided to a debtor in a bankruptcy case. It is not, then, surprising that bankruptcy courts take a very dim view of creditors who ignore the protections granted to a debtor after the filing of a case. The bankruptcy code permits a debtor to recover damages for violations of the automatic stay; those provisions are contained in 11 U.S.C. §105(a) and 11 U.S.C. §362(k).

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Classification Of Claims And Interests In Chapter 11 Bankruptcy Cases

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The classification of claims and interests in a Chapter 11 bankruptcy case is governed by Section 1122 of the Bankruptcy Code. The ability of a plan proponent to group certain claims in certain categories is a powerful tool in the confirmation process, since it can have a direct effect on the voting and objection process. Continue reading →

Adversary Proceedings In Bankruptcy: Collateral, Liens, Valuation, And Lien Stripping

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Adversary proceedings can be used to dispute, remove, or contest liens. The validity of a lien can be disputed by a trustee or a Chapter 11 debtor in possession under several of the various “avoidance” sections of chapter 5 of the Bankruptcy Code. For example:

  • Section 547:  Trustee or debtor in possession can avoid a lien as a voidable preference.
  • Section 548: A lien can be disputed as a “fraudulent conveyance.”
  • Section 544(b): A trustee can use a creditor’s avoidance rights (a creditor holding an unsecured allowable claim) under state or federal law.
  • Section 544(a): A consensual or statutory lien can be disputed as being invalid against a judicial lien creditor, execution creditor, or bona fide purchaser of real property from the debtor. Tax liens can be attacked using adversary proceedings, pursuant to In Re Dunmore, 262 B.R. 85, 87 (Bankr. N.D. Cal. 2001).
  • Section 545: A trustee or debtor in possession can avoid statutory liens on the property of the debtor in certain situations.
  • Section 549: A trustee or debtor in possession can avoid the transfer of most unauthorized post-petition transfers of property of the estate.

There are some situations in which the validity of a lien can be contested indirectly. For example, a secured creditor filing a proof of claim may claim a security interest. The trustee or debtor in possession can object to the claim under F.R. Bankr. P. 3007. If the creditor cannot verify its secured status, the claim may be disallowed as a secured claim.
Sometimes valuation of the collateral in question is an important issue. This issue can come up in adversary proceedings that attempt to strip away the second or third mortgage that is claimed to be wholly unsecured. In Re Mansaray-Ruffin, 530 F.3d 230 (3d Cir. 2008).

Here, the real issue is to what “extent” the secured creditor is secured. If there is no equity in the property to which a lien can attach, then the lien is said to be unsecured.
For example, suppose a house has a fair market value of $150,000. The first mortgage secured against the property is in the amount of $165,000. There is no equity left in the property for any second mortgage to attach to, since the mortgage is larger than the fair market value. Under Section 506(a) of the Code, secured claims are to be valued and allowed as secured to the extent of the value of the collateral, and unsecured for the excess over such value.

This provision is implemented by F.R. Bankr. 3012. Under Rule 3012, the court can determine the value of a claim secured by a lien on property on motion of any party in interest. If a debtor attempts to “strip off” or “strip down” a lien based on valuation, the majority view is that no adversary proceeding is required. Harmon v. U.S., 101 F.3d 574 (8th Cir. 1996); In Re King, 290 B.R. 641, 647 (Bankr. C.D. Ill. 2003); In Re Marsh, 475 B.R. 892, 896 (N.D. Ill. 2012). Local rules and procedures here will provide the best guidance on whether a lien can be removed by motion or by adversary proceeding.

Despite the case law supporting the idea that unsecured mortgages can be removed by motion, in practice most courts prefer that this by done by adversary proceeding, due to the nature of the rights of the creditor that are being affected.In the 8th Circuit, there is case law holding that a debtor can strip off a junior lien of a wholly unsecured claim on a debtor’s principal residence by confirmation of a Chapter 13 plan. In Re Fisette, 455 B.R. 177 (8th Cir. BAP 2011).

If a trustee is in doubt as to the priority of a lien in estate property, an adversary may be appropriate. For example, if the trustee is authorized to sell estate property under Section 363(b) of the Code “free and clear” of other interests, then an adversary might need to be used.A trustee could use Rule 7022 to do this, which permits him to interplead any competing claimants and obtain a determination of the rights of all the various claimants. An adversary proceeding can also be used under Rule 7001 to determine “other interests in property.”

Adversary proceedings have a wide range of uses. They can be used by a Chapter 11 debtor in possession, a debtor in a Chapter 7 or Chapter 13 case, by a trustee, or by a creditor. Besides providing a way to object to the discharge of certain debts, they are commonly used to determine property rights, valuations of secured collateral, extent of security interests, and determinations of ownership priority in collateral.

Read More:  Bankruptcy Adversary Proceedings Under Section 523:  Seeking To Prevent Discharge of Certain Debts

Buying And Selling Assets In A Chapter 11 Bankruptcy

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Chapter 11 cases are filed for many reasons.  One reason is a for an individual or business reorganization.  Another possible reason is for a business liquidation.  Why would a Chapter 11 case be used for a liquidation, when Chapter 7 already is available for that purpose?  The reasons are many.  In most situations, more value will be gained when the business is “wound down” by the owner gradually over time, rather than sold at “firesale” prices by a Chapter 7 trustee.

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