basics of the individual chapter 11 bankruptcy case
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BASICS OF THE INDIVIDUAL CHAPTER 11 BANKRUPTCY CASE A panel discussion presented by: The San Diego Bankruptcy Forum and The Pan Asian Lawyers of San Diego Moderated by Kelly Ann Tran of Mulvaney Barry Beatty Linn & Mayers LLP 1 PANELISTS MARTIN A. ELIOPULOS Higgs, Fletcher & Mack LLP San Diego, CA HAEJI HONG Office of the United States Trustee San Diego, CA TIFFANY CARROLL Office of the United States Trustee San Diego, CA DAVID W. BRODY Law Offices of David W. Brody San Diego, CA 2 How NOT to Declare Bankruptcy! http://youtu.be/hiCilTzhXrA 3 POLLING QUESTION Have you represented a party involved in an individual Chapter 11 case? (a) (b) Yes No Panel Goal: To discuss an individual Chapter 11 case from start to finish to help you identify and resolve issues in advance! 4 Introduction: The Different Bankruptcy Chapters 5 Choice of Chapter Individuals may be eligible to file a petition under every Chapter of the Bankruptcy Code 11 U.S.C. §109 – but which is the right chapter for your client? For the Year 2011 a total of 156 Chapter 11 cases were filed in the Southern District of California. 67 of these (43% of total) were non-business cases and 47 of these (30% of total) were individual Chapter 11 filings. 6 Chapter 7 Liquidation – 11 U.S.C. § 109(b) Business or Personal Anyone may file a Chapter 7 – however there may be reasons why a Chapter 7 is not right for your client. For example, does your client have assets with non-exempt equity notwithstanding substantial debt? 7 Chapter 13 Personal Reorganization Limitations (11 U.S.C. §109(e)) ◦ ◦ ◦ ◦ Must have regular income; Non-contingent, liquidated, unsecured debts must be less than $360,475; Non-contingent, liquidated, secured debts must be less than $1,081,400; and, Cannot be a stockbroker or a commodity broker 8 Chapter 11 General Reorganization (11 U.S.C. §109(d)) Main Benefits: ◦ ◦ ◦ ◦ No debt limit Cram down of rental or commercial real property Cram down of personal property (ie… car) Partial discharge of unsecured claims Main Detriments: ◦ ◦ ◦ ◦ Cost, compared to Ch. 13 Time to confirm plan, compared to Ch. 13 Absolute Priority Rule Oversight by Office of the United States Trustee, Operating Reports, Quarterly Fees 9 Let’s meet our Debtors! 10 The Individual Chapter 11 Case: An Example Joe and Katy Debtor ◦ Joe 45 years old Recovering from illness Unemployed last 6 months, Starting new job ◦ Katy 45 years old Teacher 11 The Individual Chapter 11 Case: An Example, cont’d ◦ Real Property Holdings: Residence – FMV $750,000 House Lender A 1st Trust Deed/Mort. – owe $700,000/3 mos. behind Equity exempt (CCP §704.730(a) – up to $100,000 Property Taxes and Insurance current Rental Property – FMV $400,000 Rental Lender B 1st Trust Deed/Mort. – owe $425,000/3 mos. behind Rental Lender C 2nd Trust Deed/HELOC – owe $50,000/3 mos. behind Property Taxes and Insurance current 12 The Individual Chapter 11 Case: An Example, cont’d ◦ Personal Property Holdings (of significance): Car #1 – FMV $5,000 Free and clear Exempt up to $2,300 (CCP §704.010) Insured Car #2 – FMV $20,000 Auto Lender D Financed – owe $25,000/3 months behind Insured IRA/Retirement – FMV $125,000 Took $25,000 out in last year to make ends meet IRA Exemption Limit [§522(n) - $1,171,650] 13 The Individual Chapter 11 Case: An Example, cont’d ◦ Other Debts: 3 Medical Bills $15,000 ($5,000 each) Creditors #1, #2, #3 3 Credit Cards $15,000 ($5,000 each) Creditors #4, #5, #6 Other Rental Lender B $25,000 Deficiency Claim Rental Lender C $50,000 Deficiency Claim Auto Lender D $5,000 Deficiency Claim ◦ Income/Expenses Without bankruptcy ($1,200/mo.) 14 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Case Disclosure Statement Plan of Reorganization Confirmation ◦ Post-Confirmation Issues 15 Pre-Bankruptcy Planning 16 Pre-Bankruptcy Consultation (Debtors) What caused the current financial situation? How can the problem be resolved? Understanding the bankruptcy estate Assets, Liabilities, Exemptions (CCP 703, 704) Bankruptcy Goals Keep real property and cars Partial discharge of unsecured claims Stop spending retirement Does any other Chapter make sense? Not Chapter 7 – can’t reorganize properties Not Chapter 13 – do not qualify 17 Pre-Bankruptcy Consultation (Debtors cont’d) ◦ Developing the Plan at the beginning! Can you file a confirmable plan? Identifying Claims Unclassified Administrative (Professionals) Quarterly Fees/Clerk’s Fees Priority Claims (such as income taxes) Classified – Secured House Lender A (fully secured with equity cushion) Rental Lender B (secured up to FMV/Lien Strip) Rental Lender C? NO! (Lien Strip/Unsecured) Auto Lender D (secured up to FMV/Lien Strip) 18 Pre-Bankruptcy Consultation (Debtors cont’d) ◦ Developing the Plan at the beginning! Can you file a confirmable plan? Identifying Claims Classified – Unsecured Non-Priority (consists of:) Creditors #1, #2 and #3 (Medical Bills) Creditors #4, #5 and #6 (Credit Cards) PLUS Rental Lender B ($25,000 unsecured deficiency) Rental Lender C ($50,000 completely unsecured) Auto Lender D ($5,000 unsecured deficiency) 19 Pre-Bankruptcy Consultation (Debtors cont’d) ◦ Developing the Plan at the beginning! Can you file a confirmable plan? Identifying Claims Equity (Mr. and Mrs. Debtor) Discuss voting, impaired classes, cram down, absolute priority rule and “new value” How will the Plan be funded? Income/Expenses Without bankruptcy ($1,200/mo.) Estimated with plan $1,000/mo. New value? IRA, Gift? 20 Pre-Bankruptcy Consultation (Creditors) Secured Creditor Strategy ◦ Generally – Identify the collateral Real property Personal property Cash ◦ Determine strategy to protect the collateral Is the security interest properly documented? Is the security interest perfected? If not, how can it be perfected? Has the default been documented properly? 21 Pre-Bankruptcy Consultation (Creditors) Secured Creditor Strategy, cont’d ◦ Issues relating to Real Property Judicial foreclosure v. Nonjudicial foreclosure Record/Serve Notice of Default Record/Serve Notice of Sale ◦ Guarding against potential preference exposure Analyze payment history Timing of perfecting security interest 22 Pre-Bankruptcy Consultation (Creditors) Unsecured Creditor Strategy ◦ Try to negotiate payment plan outside of bankruptcy ◦ Preference exposure Review payment history What payments received in the last 90 days? Try to delay bankruptcy filing ◦ Discuss settlement and compare to recovery in bankruptcy 23 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Case Disclosure Statement Plan of Reorganization Confirmation Post-Confirmation Issues 24 Filing the Chapter 11 Case 25 Initial Filing Requirements with Court ◦ ◦ Filing Fee Petition/Schedules/Statement of Financial Affairs (“SOFA”) The list of 20 largest unsecured creditors Credit Counseling Certificate issued within 180 days of petition date Other: ◦ ◦ ◦ Official Form B22B Chapter 11 Statement of Current Monthly Income (“Means Test Form”) Compensation Statement of Attorney Verification of Creditor Matrix Statement of Social Security Number 26 The case is filed, now what? 27 First Day Motions Identifying Debtors’ First Day Motions Insider Compensation Cash Collateral Consult Local Rules Appendix D-1 – Guidelines for First Day Motions Be sure to call both United States Trustee’s Office and Court’s law clerk when you file the First Day Motions 28 First Day Motions, cont’d Insider Compensation Local Bankruptcy Rule 4002-2 Immediately file ex parte motion for interim order approving insider compensation pursuant to LBR 4002-2(b) Based on the Debtor’s Schedules I and J Must first seek a statement of position from the U.S. Trustee pursuant to LBR 4002-2(c) and LBR 9034-1(a)(3) Ask for approval retroactive to petition date At same time, file a Notice of Intended Action with notice to all creditors for final order approving insider compensation during case pursuant to LBR 2002-2(a)(5) and LBR 4002-2(a) 29 First Day Motions, cont’d Cash Collateral Motion Definition: “cash, negotiable instruments, documents of title, securities, deposit accounts or other cash equivalents” §363(a) Required when lender has a lien on proceeds such as rental income or other income and receivables Cannot use without lender consent or a court order Be detailed – must comply with Fed. Bank. Rule 4001(b)(1)(B) and LBR Appendix D-2 Emergency Motion requests immediate and interim approval pending final hearing First opportunity re FMV, lien strip and interest rate Debtor, as owner, can give opinion re value of property Argue for current market rate of interest on secured portion of loan as adequate protection Expect lender to oppose 30 First Day Motions, cont’d Cash Collateral Motion, cont’d Lender’s Strategy Judicial policy re emergency motion vs. noticed motion (preserve status quo/interim approval typically granted if reasonable) Request and review Debtor’s monthly budget Cash Collateral Stipulation Can shape plan classification and treatment but not binding on lender Setting up Motion for Relief from Stay 31 First Day Motions, cont’d Cash Collateral Motion, cont’d Typical lender issues: What do we know?/ What do we need to know? What do we have that tells us cash is being generated by the property? Who is in control of it? Is there excess after operations? Will debtor enter cash collateral stipulation? Judges differentiate on what is reasonable use for operations Set up motion for relief if debtor doesn’t comply FMV issues 32 So far so good . . . ◦ ◦ Case filed First Day Motions Filed ◦ ◦ Interim order approving insider compensation Interim order approving use of cash collateral Notice of Intended Action re final order approving interim compensation filed Notice of Hearing set re final order re cash collateral So what happens next? 33 Introducing the Office of the United States Trustee 34 UST’s Initial Operating Requirements Ch. 11 Operating & Reporting Requirements set forth online – http://www.justice.gov/ust/r15/san_diego/chapter11.htm Close all pre-petition bank accounts and open new debtor in possession accounts (general, payroll, tax) at authorized depositories Obtain new estate taxpayer’s ID number, per 26 U.S.C. § 1398 & IRS Publication 908 Proof of insurance on real & personal property, with UST added as additionally noticed party Real property questionnaire 35 UST’s Initial Operating Requirements, Cont’d Projected 90 day profit and loss statement Schedule I/J Budget for Income Property Physical inventory (Schedule B) Copies of last 2 income tax returns filed Other documents typically requested Financial statements issued within 1 year Grant deeds and mortgage notes Rent roll DMV declaration re: non-use of uninsured cars 36 Required Meetings Initial Debtor Interview ("IDI”) Informal meeting with an analyst from the UST - Discuss petition, schedules, SOFA, submitted package, and reorganization goal of the case Meeting of Creditors – 11 U.S.C. §341(a) Will occur approximately 35 days after case is filed Debtor must produce 2 forms of government issued I.D. Debtor testifies under oath before UST Staff Attorney All creditors receive notice of meeting and may attend Note: recommend meeting with Debtor to review all filings to date and US Trustee requirements at least 1 day before both meetings. 37 Motions Requiring UST’s Statement of Position (“SOP”) ◦ Motions requiring SOP’s (See LBR 9034-1) ◦ ◦ Employment application of professionals Interim insider compensation (LBR 4002-2) Extension of time to file Schedules Final decree Motions requiring UST’s SOP should first be submitted to UST’s office at: ustp.region15sop@usdoj.gov Once UST’s SOP is issued back to you, then file the motion, SOP, any supplemental response to UST’s SOP, and proposed order with the Court 38 Motions Requiring UST’s SOP, cont’d Employment Application Submit to the UST’s Office within first 30 days of petition filing to avoid having to file a nunc pro tunc application. File in the first week if not sooner! Rule 6003 prohibits the Court from entering an order employing professional within 21 days Required for you and other professionals which the Debtor intends to utilize such as accountants, appraisers, financial advisors (note – this is a requirement only under Chapter 11, not 7 or 13) Paid from estate as an administrative expense §503(b)(2) and §507(a)(2) 39 Motions Requiring UST’s SOP, cont’d Employment Application, cont’d Application must disclose all conflict of interest and fees received – 11 U.S.C. §§ 327, 329; FRBP 2014, 2016; Neben & Starrett, Inc. v. Chartwell Financial Corporation (In re Park-Helena Corp.), 63 F.3d 877 (9th Cir. 1995) Order approving employment of you or other professional required before payment – 11 U.S.C. §§ 327, 329; FRBP 2014(a), 2016; In re Haley, 950 F.2d 588 (9th Cir. 1991); In re Shirley, 134 B.R. 940 (9th Cir. BAP 1992) 40 UST Reporting Requirements During Case The United States Trustee’s Office is responsible for oversight of all Chapter 11 cases to protect the integrity of bankruptcy system Among other things, a Debtor must: Pay Quarterly fees based on disbursements pursuant to the published fee schedule - 28 U.S.C. § 1930(a)(6) File, serve on UST and creditors a Monthly Operating Report and as otherwise ordered by the court. Prior month’s report due by 20th day of following month Submit renewals or new insurance policies timely before the expiration of insurance 41 UST Reporting Requirements During Case, cont’d Among other things, a Debtor must: ◦ ◦ Serve the UST with a copy of all pleadings filed with the Court Timely comply with all requests for information Consequences of failure to comply or respond to UST ◦ ◦ Could be cause for a motion to dismiss, convert the case or appoint a Ch. 11 Trustee – 11 U.S.C. § 1112 (b)(4) Cannot confirm plan (failure to pay UST quarterly fees) – 11 U.S.C. § 1129(a)(12) 42 Your individual Chapter 11 case is off and running! ◦ During the first month of the case, the Court will likely set Chapter 11 Status Conference to discuss case overview, deadlines, and other matters related to the Plan Final hearing/order on insider compensation Final hearing/order on cash collateral Order approving employment of professionals Apply for and serve out Claims Bar Date notice File monthly operating reports/pay quarterly fees Timing of lien strip (on rental and car) ◦ ◦ ◦ ◦ ◦ ◦ (by motion § 506(a) or through Plan) 43 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Chapter 11 Case Disclosure Statement Plan of Reorganization Confirmation ◦ Discharge 44 The Disclosure Statement 45 The Disclosure Statement ◦ ◦ ◦ ◦ ◦ ◦ Plan – Tells creditors how their claims are classified and treated Disclosure Statement – Describes the Plan Required for any Chapter 11 plan Must satisfy the “adequate information” standards of § 1125 ◦ Enough information to help creditors make an informed decision about voting on the Plan Must be approved by the Court after notice and hearing ◦ Timing ◦ Regular Notice ◦ LBR 2002-1(e) – 39 days + 3 for mail = 42 days) Cannot solicit votes without disclosure statement approval! 46 The Disclosure Statement, cont’d ◦ Consider “conditional” approval on ex parte basis and combining final approval with plan confirmation ◦ An individual Chapter 11 debtor can request conditional approval of the disclosure statement. ◦ ◦ See In re Tassel, ___ B.R. ___ (Bankr. E.D. Cal. 2011) (finding authority in § 105) Can reduce time in Chapter 11 by 6 weeks! 47 The Disclosure Statement, cont’d ◦ Creditor’s approach to Disclosure Statement ◦ ◦ ◦ ◦ Depends on the Debtor’s proposed treatment to creditor’s claim/creditor’s leverage? Educate the Judge Motion for relief heard concurrently Plan can be challenged at Disclosure Statement hearing if not confirmable as a matter of law ◦ Classification and Treatment issues ◦ Feasibility Issues ◦ Absolute Priority Rule 48 The Disclosure Statement, cont’d ◦ U.S. Trustee’s approach to Disclosure Statement ◦ Look for adequate disclosures and feasibility ◦ ◦ Can object to plan at disclosure statement hearing in not confirmable/feasible Make sure disclosures cover: ◦ ◦ ◦ §1115 – property of Chapter 11 bankruptcy estate §1129(a)(15) – how much disposable income is required if an unsecured creditor objects? §1141 – Effect of confirmation and delayed discharge in an individual Chapter 11 case 49 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Chapter 11 Case Disclosure Statement Plan of Reorganization Confirmation ◦ Discharge 50 The Plan 51 The Plan Exclusive right to file a plan under §1121(b) ◦ 120 days Exclusivity period can be extended for “cause” as long as the order granting the extension is signed before the existing deadline expires ◦ See Dow Corning Factors for determination of cause, 208 B.R. 661, 664-665 (Bankr. E.D. Mich. 1997) Third party plan ◦ Any party in interest may file a plan after the end of the exclusivity period 52 The Plan, cont’d Plan term may be longer than 5 years Same notice requirement as disclosure statement LBR 2002-1(e) (39 days + 3 for mail = 42 days) 53 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Chapter 11 Case Disclosure Statement Plan of Reorganization Confirmation Post-Confirmation Issues 54 Plan Confirmation 55 Plan Confirmation Unclassified Claims Identifying unclassified claims in Mr. and Mrs. Debtors’ Plan Administrative Expense Claims Professionals Statutory Fees Office of the U.S. Trustee Clerk’s Office Priority Taxes None How are they treated? 56 Plan Confirmation, Cont’d Unclassified Claims – Treatment Administrative Expense Claims Includes professional compensation and reimbursement claims allowed under §503(b)(2) Fee application and approval of fees required by bankruptcy court before payment of fees from the estate - 11 U.S.C. § 330 Interim fee app may be made under 11 U.S.C. § 331 Court will only allow reasonable fees that was necessary for administration and beneficial to the estate per 11 U.S.C. § 330 -- estate ≠ debtor so services beneficial to the debtor (defending against discharge) may not be compensable Must be paid in full on the Plan “Effective Date” Unless agree to a different treatment § 1129(a)(9)(A) 57 Plan Confirmation, cont’d Unclassified Claims - Treatment, cont’d Statutory Fees U.S. Trustee Quarterly Fees Pre-confirmation quarterly fees must be paid in full by the Plan “Effective Date” 28 U.S.C. §1930 Fees due to the Office of the Clerk Pre-confirmation fees due to the office of the clerk must be paid in full by the Plan “Effective Date” Form CSD 1148 Notice of Request for Special Charges by Chapter 11 Plan Proponent must be filed 21 days before the plan confirmation hearing LBR 3020-1 58 Plan Confirmation, Cont’d Classified Claims Identifying classified claims in Mr. and Mrs. Debtors’ Plan Secured Claims (separate classes) Class #1 – House Lender A ($700,000) Class #2 – Rental Lender B ($400,000 – up to FMV of Rental) Class #3 – Auto Lender D ($20,000 – up to FMV of Car #2)) Unsecured Non-Priority Claims – Class #4 Creditors #1, #2, #3 (medical bills) Creditors #4, #5, #6 (credit cards) PLUS Rental Lender B ($25,000 deficiency) Rental Lender C ($50,000 deficiency) Auto Lender D ($5,000 deficiency) Equity Interest Holders – Class #5 Mr. and Mrs. Debtor How are each of the classes treated? 59 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims Class #1 – House Lender A ($700,000) (FMV $750,000/ Lender is OVER- Secured) CANNOT CRAM DOWN/LIEN STRIP/MODIFY A LOAN AGAINST THE DEBTOR’S PRINCIPAL RESIDENCE! § 1123(b)(5) So what can you do? Primary Goal – Consensual Treatment *Ask for modification of term, interest rate, adding missed payments to end of loan *Possible impaired consenting class! If there is no agreement, be prepared to cure any default by the Plan Effective Date 60 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims Class #1 – House Lender A ($700,000) (cont’d) (FMV $750,000/ Lender is OVER- Secured) Perspective of over-secured Lender In good position- some equity-but less than 10% Can apply some pressure to ensure debtor maintains post-petition payments and proposes plan to cure prepetition arrearages relatively quickly Entitled to fees and costs to the extent over secured 61 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims Class #2 – Rental Lender B ($400,000) (Owed $450,000/ FMV $400,000/ Lien Strip) Primary Goal – Consensual Treatment Possible impaired consenting class! Negotiation/Litigation Issues Valuation/Lien Strip Modify Interest Rate Till v. SCS Credit Corp., 541 U.S. 465 (2004) Modify Term (how long?) What about the missed payments? (Added to unsecured deficiency?) Can’t come to an agreement? Try “Cram Down.” 62 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims Class #2 – Rental Lender B ($400,000) (Cont’d) (Owed $450,000/ FMV $400,000/ Lien Strip) Perspective of partially under-secured lender At risk- Need a resolution quickly from the debtor or things get worse Short trigger on motion for relief Not entitled to fees and costs Slightly under-secured- Is stipulation worth the effort for debtor/ room for negotiation on both sides 63 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims What happens to Rental Lender C? In Chapter 11, Rental Lender C may have a security interest in the Rental Property but after lien strip does not have a secured claim (Owed $50,000/$0 Equity after 1st/Lien Strip) Completely unsecured!! Only vote is as unsecured claim. Perspective of stripped down/no unsecured lender Weak position How does your claim compare with body of unsecureds? Very flexible on terms to remain secured Very interested in treatment of unsecureds 64 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims Class #3 – Auto Lender D ($20,000) (Owed $25,000/ FMV $20,000/ Lien Strip) Primary Goal –Consensual Treatment Possible impaired consenting class! Negotiation/Litigation Issues: Valuation/Lien Strip Modify Interest Rate Till v. SCS Credit Corp., 541 U.S. 465 (2004) Modify Term (how long?) What about the missed payments? (Added to unsecured deficiency?) Can’t come to an agreement? Try “Cram Down.” 65 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims (cram down) “Cram Down” of Secured Claims Court can “cram down” Plan over dissenting class of secured claims if: All 16 applicable plan confirmation requirements of §1129(a) are met except §1129(a)(8) – all impaired classes have either accepted the plan or are not impaired under the plan; and Pursuant to § 1129(b)(2), the plan does not “discriminate unfairly” and is “fair and equitable” toward each impaired class that has not accepted the plan 66 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims (cram down) “Discriminate unfairly” not defined – up to court “Fair and equitable” is defined by statute and can be accomplished in 3 different ways Standard #1 - § 1129(b)(2)(A)(i) Retain Lien A plan is “fair and equitable” if it provides: (i) The secured lender retains its lien: AND (ii) The plan pays the secured lender on its secured claim: Deferred cash payments totaling at least the allowed amount of the secured claim (the “principal test”); and The payments have a value of at least the value of the holder’s interest in the collateral on the plan effective date (the “lien present value test”). 67 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims (cram down) Standard #2 - § 1129(b)(2)(A)(ii) Sale/Lien Attach A plan is “fair and equitable” if it provides for a sale of the collateral free and clear of liens with the creditor’s lien attaching to the sales proceeds Standard #3 - § 1129(b)(2)(A)(iii) – Indubitable Equivalent A plan is “fair and equitable” if it provides that secured creditor realizes the “indubitable equivalent” of its claim (whatever that means!!) 68 Plan Confirmation, Cont’d Classified Claims - Treatment Secured Claims (cram down) In our example, let’s assume that: Rental Lender B votes against Mr. and Mrs. Debtor’s Plan; and Mr. and Mrs. Debtor’s Plan seeks “cram down” of Rental Lender B’s secured claim under standard #1 Standard #1 - § 1129(b)(2)(A)(i) - Application Mr. and Mrs. Debtor’s Plan satisfies this first standard if it provides for: (i) Rental Lender B to retain its 1st priority lien against the rental property; AND (ii) the Plan pays Rental Lender B on its secured claim: Deferred cash payments totaling at least the amount of the Rental Lender B stripped-down secured claim ($400,000); and The present value of the payments is at least as much as the value of Rental Lender B’s interest in the collateral on the Plan effective date ($400,000) (must pay appropriate interest/discount rate) 69 Plan Confirmation, Cont’d Understanding the “§1111(b) Election” Where the claim is fully secured, cram down is satisfied by paying a market rate of interest over any period of time. However, the first “cram down” standard can be complicated by the “1111(b) election.” Understanding the “1111(b) election” starts with understanding §506(a). § 506(a) Summary A secured creditor’s lien can be limited (by motion or through a plan) to the value of the secured creditor’s interest in the estate’s interest in the collateral (or most of the time, the value of the collateral) In other words, the claim can be split into two claims In our example, Rental Lender B’s secured claim is limited in the Plan to $400,000 (the value of the rental) and its unsecured deficiency claim is $25,000 70 Plan Confirmation, Cont’d Understanding the “§1111(b) Election” Question – So what is the purpose of §1111(b)? Answer – to give (or preserve) the partially secured lender (whose claim was split under § 506(a)) has automatic recourse rights (the right to collect a deficiency claim) against a Chapter 11 debtor even if a lender did not have recourse rights against the debtor under state law. See §1111(b)(1) In other words, an under-secured lender such as Rental Lender B whose lien has been stripped in an individual Chapter 11 case automatically has both a secured claim up to the FMV of the property and an unsecured deficiency claim for the balance That also means that Rental Lender B two separate votes on the Plan: one secured vote and one unsecured vote 71 Plan Confirmation, Cont’d “§1111(b) Election” The statutory recourse right is subject to 2 exceptions: §1111(b)(1)(A)(ii) - If the secured lender does not have recourse outside of Ch. 11 and the collateral is sold through a 363 sale or under a plan, then there is no statutory recourse claim; or §1111(b)(1)(A)(i) - If the lender’s class votes for the election under 1111(b)(2) (the “1111(b) Election”). “§1111(b)(2)- The “Election” (Summary): In an individual Chapter 11 case, any partially secured lender that makes an “1111(b) Election” shall , notwithstanding having its lien stripped down under §506(a), have its claim treated as fully secured (and will therefore forfeit any unsecured deficiency claim and forfeit the right to vote any unsecured deficiency claim) 72 Plan Confirmation, Cont’d “§1111(b) Election” Note: the partially secured creditor cannot make the §1111(b) election under 2 circumstances: §1111(b)(1)(B)(i) - The value of the lien is “inconsequential”(don’t want to confer secured creditor status to a virtually unsecured creditor – but the creditor still retains a secured vote and an unsecured vote); and §1111(b)(1)(B)(ii) - The lender does have recourse outside of Ch. 11 and the collateral is sold either through a §363 sale or under a plan (the statutory recourse claim only exists if the debtor retains the property). Once the election is made by a secured lender (no later than the hearing on the disclosure statement unless otherwise extended by the court), then the plan must satisfy Standard #1 – Retain Lien by paying the lender the full amount of its claim and not just the stripped-down secured portion. 73 Plan Confirmation, Cont’d “§1111(b) Election” #1 - §1129(b)(2)(A)(i) - Application after Election Mr. and Mrs. Debtor’s Plan satisfies this first standard if it provides for: (i) Rental Lender B to retain its 1st priority lien against their residence; AND (ii) the Plan pays Rental Lender B on its secured claim: deferred cash payments totaling at least the amount of the Rental Lender B total claim ($425,000 as opposed to $400,000) (the “principal amount test”); and The present value of the future payment stream is at least as much as the value of Rental Lender B’s interest in the collateral on the Plan effective date ($400,000) (the “lien present value test”) Note: After 1111(b) election, the plan will require a larger monthly payment or a balloon payment testing feasibility! 74 Plan Confirmation, Cont’d “§1111(b) Election” So why does a secured lender make an § 1111(b) election? To guard against an artificially low valuation of the secured claim by the bankruptcy court under § 506(a) resulting in an artificially high deficiency claim that is often paid a little or nothing dividend in Chapter 11 To dispute whether the deferred cash value of payments equals the present value of the collateral (litigate the discount rate) and is therefor not “fair and equitable” as required by § 1129(b)(2)(A)(1) To dispute feasibility of the plan because the election and an appropriate discount rate results in a larger plan payment that the debtor has projected and can afford 75 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims Class #4 (Unsecured Claims) Medical Bills Creditor #1 ($5,000) Creditor #2 ($5,000) Creditor #3 ($5,000) Credit Cards Creditor #4 ($5,000) Creditor #5, ($5,000) Creditor #6 ($5,000) Deficiency Claims Rental Lender B ($25,000 deficiency claim) Rental Lender C ($50,000 deficiency claim) Auto Lender D ($5,000 deficiency claim) 76 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims Class #4 (Unsecured Claims)(Cont’d) Mr. and Mrs. Debtor’s Plan proposes to pay a 15% distribution to allowed unsecured claims over 5 years Issues: Plan length/% distribution/Best Interests of Creditors (§1129(a)(7)) If an unsecured creditor objects, then must satisfy §1129(a)(15)(B): the value of the property to be distributed under the plan is not less than the projected disposable income of the debtor (as defined in section §1325 (b)(2)) to be received during the 5-year period beginning on the date that the first payment is due under the plan, or during the period for which the plan provides payments, whichever is longer. 77 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims Class #4 (Unsecured Claims) (Cont’d) Summary: 9 total unsecured non-priority claims Total unsecured non-priority claims = $110,000 Breakdown important for voting § 1126(c) provides that for a class of claims to accept the plan, creditors holding at least 2/3 in amount and 1/2 in number of allowed claims must vote to accept the plan (counting only the allowed claims that have accepted or rejected the plan). In our case, Mr. and Mrs. Debtor need: At least 2/3 of $110,000 amount of allowed claims is at least $73,370 1/2 in number of 9 allowed claims is 5 78 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims Class #4 (Unsecured Claims) (Cont’d) Example #1 – Class #4 Votes to REJECT Example #1 YES Medical #1 Medical #2 Medical #3 CC #1 CC #2 CC #3 Lender B Lender C Lender D $5,000 $5,000 $5,000 $5,000 $5,000 $5,000 $25,000 $5,000 TOTAL TOTAL $55,000 8/9 NO % Yes Pass 50% 89% NO YES $50,000 $50,000 1/9 79 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims Class #4 (Unsecured Claims) Example #2 – Class #4 votes to ACCEPT Example #2 YES Medical #1 Medical #2 Medical #3 CC #1 CC #2 CC #3 Lender B Lender C Lender D $5,000 $5,000 $5,000 $5,000 $5,000 $5,000 $50,000 $5,000 TOTAL TOTAL $85,000 8/9 NO % Yes Pass 77% 89% YES YES $25,000 $25,000 1/9 80 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) Class #4 (Unsecured Claims) (Cont’d) Goal is consensual treatment But what about “cram down”? Court can “cram down” Plan over a dissenting class of general unsecured claims if: All 16 applicable plan confirmation requirements of §1129(a) are met except §1129(a)(8) – all impaired classes have either accepted the plan or are not impaired under the plan; and Pursuant to § 1129(b)(2), the plan does not “discriminate unfairly” and is “fair and equitable” toward each impaired class that has not accepted the plan 81 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) “Cram Down” of Unsecured Claims “Discriminate unfairly” not defined – up to Court “Fair and equitable” is defined by statute and can be accomplished in 2 different ways: § 1129(b)(2)(B)(i) pay a distribution amount equal to the full amount of allowed unsecured claims (either in full by the “effective date” or over time with interest); or § 1129(b)(2)(B)(ii) satisfy the “Absolute Priority Rule” - requires an objecting class of unsecured claims be paid in full before any junior claim or interest receives any payment. Rule Restated: The equity interest holders (here Mr. and Mrs. Debtor) cannot retain any (non-exempt) pre-petition property unless the class of unsecured creditors vote to accept the Plan or are paid in full under the Plan 82 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) Issues regarding the “Absolute Priority Rule” BAPCPA amended the Bankruptcy Code in 2005 and made several changes/additions specifically pertaining to individual Chapter 11 cases There is a currently a heated debate amongst the bankruptcy courts as to whether the absolute priority rule still applies in individual Chapter 11 cases after BAPCPA sparked by: The addition of §1115; and An exception added to the absolute priority rule for individual Chapter 11 cases set forth in §1129(b)(2)(B)(ii) 83 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) BAPCPA added § 1115 to “include” post-petition earnings and post-petition acquired property as property of the estate: In a case in which the debtor is an individual, property of the estate includes, in addition to property specified in section 541 – (1) All property of the kind specified in section 541 that the debtor acquires after commencement of the case but before the case is closed, dismissed, or converted to a case under chapter 7, 12 or 13, whichever occurs first; and (2) earnings from services performed by the debtor after commencement of the case but before the case is closed, dismissed, or converted to a case under chapter 7, 12 or 13, whichever occurs first. 84 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) BAPCPA amended Section 1129(b)(2)(B)(ii) by adding a phrase after the absolute priority rule as follows: (2) For purposes of this subsection, the condition that a plan be fair and equitable with respect to a class includes the following requirements: ... (B) With respect to a class of unsecured claims: (i) The plan provides that a holder of such class receive or retain on account of such claim property of a value, as of the effective date of the plan, equal to the allowed amount of such claim; or (ii) The holder of such claim or interest that is junior to the claims of such class will not receive or retain under the plan on account of such junior claim or interest any property, except in the case in which the debtor is an individual, the debtor may retain property included in the estate under section 1115, . . . 85 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) The dispute over the amendments and in particular the phrase: except in the case in which the debtor is an individual, the debtor may retain property included in the estate under section 1115, . . . What does “included” mean? Whatever property is “included” is the property the individual debtor can retain without having to satisfy the absolute priority rule 86 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) Cases have developed into to two competing views: The Narrow View – BAPCPA amendments did not affect the absolute priority rule and it remains valid and enforceable in individual Chapter 11 cases Adopted by a majority of courts including Judges Bowie and Taylor in the Southern District The Broad View – BAPCPA amendments abrogated the absolute priority rule and it no longer applies in individual chapter 11 cases Adopted by a minority of courts and the only Ninth Circuit BAP Panel to rule on the issue. 87 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) The Narrow View – BAPCPA amendments did not affect the absolute priority rule and it remains valid and enforceable in individual Chapter 11 cases. Creditor’s favorite Simplified Version: included = added Plain reading of statutes: The amendment to §1129(b)(2)(B)(ii) authorizes the individual debtor to retain and use only the property added by section §1115; and The only property excepted from the rule is the property added by §1115 - post-petition earnings and post-petition acquired property. See In re Karlovich, 456 B.R. 677 (Bankr. S.D. Cal. 2010) (Judge Bowie) Also adopted by Judge Taylor 88 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) The Broad View – BAPCPA amendments abrogated the absolute priority rule and it no longer applies in individual chapter 11 cases. Debtor’s favorite Simplified Version: included = in addition to Statute analysis is: The amendment to section §1129(b)(2)(B)(ii) authorizes the individual debtor to retain and use all of the property included in the estate by § 1115; and The “in addition to” language of section §1115 means that an individual chapter 11 debtor’s estate now includes post-petition earnings and post-petition acquired property added by §1115 PLUS all pre-petition property identified in §541. See In re Friedman, ___ B.R. ___ (9th Cir. BAP 2012) But see In re Arnold, ___ B.R. ___ (Bankr. C.D. Cal. 2012) (bankruptcy court not bound by Friedman) 89 Plan Confirmation, Cont’d Classified Claims - Treatment Unsecured Non-Priority Claims (cram down) Don’t forget about “new value” as an exception to the absolute priority rule. “New value” still recognized by bankruptcy courts. Bank of America Nat’l. Trust and Sav. Ass’n v. 203 North LaSalle Street Partnership, 526 U.S. 434 (1999) In re Henderson, 321 B.R. 550 (Bankr. M.D. Fla. 2005) new value applies to individual Ch. 11 cases Bonner Mall Partnership v. U.S. Bancorp Mortgage Co. (In re Bonner Mall Partnership), 2 F.3d 899, 908-909 (1993) To qualify, the former equity owners must offer value that is: (1) new; (2) substantial; (3) money or money’s worth; (4) necessary for a successful reorganization; and (5) reasonably equivalent to the value or interest received. 90 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Chapter 11 Case Disclosure Statement Plan of Reorganization Confirmation ◦ Post-Confirmation Issues 91 Post-Confirmation Issues 92 Post-Confirmation Issues Plan Confirmation Orders Final order approving conditionally approved Disclosure Statement Findings of Fact and Conclusions of Law Bankruptcy Rule 7052 (F.R.C.P. 52) Order Confirming Plan Order Valuing Lien Sets lien value Bifurcates secured creditor’s claim into secured and unsecured portions Effective upon discharge under §1141(d)(5) Orders lender to release lien once secured claim is paid in full 93 Post-Confirmation Issues Other Office of the United States Trustee continues to monitor so all pleadings must continued to be served on UST’s Office. Also, obligated to: Post-Confirmation Quarterly Reports Post-Confirmation Quarterly Fees Final Fee Application hearing and order Notice of Plan Effective Date Creditor compliance Implement revised Plan payment Set up monitoring for any changes in payout, interest rate, etc. during plan Be aware of plan requirements upon default Lien strip and release of lien upon payment in full 94 Post-Confirmation Issues The Individual Debtor’s Discharge Ordinarily a chapter 11 debtor obtains discharge upon confirmation of its plan; but in an individual chapter 11, discharge comes after completion of all payments under the plan §1141(d)(5) Completion of all payments? See In re Brown, 2008 WL 4817505 (Bankr. D. Dist. Col. 2008) (cause existed for allowing debtor to obtain an early discharge even where debtor had not completed monthly mortgage payments that could last for many years) 95 Post-Confirmation Issues The Individual Debtor’s Discharge, cont’d Exception: § 1141(d)(5)(A) Discharge can be effective upon confirmation after separate motion, notice and hearing See In re Brown, 2008 WL 4817505 (Bankr. D. Dist. Col. 2008)(Bankruptcy court is given the power to deviate from the general rule of §1141(d)(5) if the court finds “cause” and after notice and a hearing” to creditors) But See In re Sheridan, 391 B.R. 287 (Bankr. E.D. N.C. 2008)(conspicuous notice in disclosure statement is sufficient to grant discharge at time of confirmation) § 1141(d)(5)(B) Discharge can be effective before payments are complete: If value actually distributed by the Plan effective date is more than creditor would receive in a Ch. 7 liquidation; Modification of the Plan is not practicable; and Debtor has not violated § 522(q). 96 Post-Confirmation Issues The Final Decree Closing the Case § 350(a) mandates that bankruptcy court “shall” close the case after estate is “fully administered.” “Fully administered” includes following factors: (1) The Order confirming the Plan is final (2) Deposits required by Plan are distributed (3) Property proposed to be transferred by the Plan has been transferred (4) Reorganized debtors have assumed management of property in the Plan (5) Plan payments have commenced (6) All motions, contested matters and adversary proceedings are resolved See In re Mold Maker’s Inc., 124 B.R. 766, 768 (Bankr. N.D. Ill. 1996) 97 Getting to and through Plan Confirmation ◦ ◦ ◦ ◦ ◦ Pre-bankruptcy Planning Filing the Chapter 11 Case Disclosure Statement Plan of Reorganization Confirmation ◦ Post-Confirmation Issues 98 CONGRATULATIONS!! ◦ You have successfully made it through the Chapter Plan Confirmation Process!! 99
