Rising to the individual Chapter 11 challenge

Most Chapter 11 bankruptcies are filed by business organizations. Increasingly, however, high net worth individuals are using Chapter 11 to restructure their personal finances.

Chapter 11 provides the debtor with a great deal of flexibility to reorganize his or her affairs, subject to “fairness” requirements. A central aspect of chapter 11 is the debtor’s right to propose a plan governing treatment of the various types or “classes” of creditor claims.

General unsecured claims frequently receive minimal payment. The debtor may try to “cram down” an undersecured loan by reducing the secured debt to the value of the collateral and leaving the remainder unsecured. Any lien other than a mortgage on the debtor’s primary residence is vulnerable.

Creditors have some limited rights to fight back. The members of each class whose claims are modified by the plan have the right to vote against the plan. A secured creditor can elect to have its entire claim treated as secured, thus blocking cram down. An unsecured creditor can force the debtor to contribute property equal to the debtor’s projected disposable income for the next five years.

A debtor may also engage in aggressive pre-bankruptcy planning. A “collapsed debtor,” for example, occurs when an individual real estate developer transfers properties, typically on the eve of bankruptcy, from closely-held companies to himself, collapsing the ownership structure. Unless a creditor can show that the debtor’s planning amounted to a scheme to hinder, delay or defraud, the creditor may lose not only the special protections in a “single asset real estate” bankruptcy, but also control of the unsecured creditor class.

In bankruptcy, as in life, the squeaky wheel gets the grease. Often, a creditor must object to get better treatment.

Christopher J. Stroebel is an attorney at von Briesen & Roper, s.c.

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