Chapter 11 Bankruptcy: The Process

Chapter 11 bankruptcy is a very detailed process that is often difficult to understand. In this article I will outline the basic steps or components of the Chapter 11 bankruptcy process. Note that, depending on the type of debtor involved and variations in circumstances, the following steps do not always take place in the order presented. Also, not every case involves all of the steps and sometimes additional steps are needed. Only the most common components are presented for ease of understanding the basic process.

The Filing

The first formal step in a Chapter 11 bankruptcy is to file the petition for bankruptcy with the bankruptcy court for the district the debtor resides in or is headquartered in. The petition form contains basic information about the debtor and the debtor’s financial situation, including a list of creditors with claims against the debtor. Individuals or married couples filing jointly must also file a certificate of credit counseling and a copy of any debt repayment plan developed through credit counseling along with several other statements. The petitioner must also pay a $1,213 case filing fee (as of February 2013).

First Day Motions           

Once the petition is filed and the case accepted by the bankruptcy court, there are usually several issues that must be addressed right away and are handled through legal motions filed by the debtor’s bankruptcy attorney. These are commonly known as “First Day” motions. These often include:

• Utilities motion – to prevent shut-off of services during bankruptcy proceedings
• Employee motion – to get permission to pay employees any unpaid wages that accrued prior to filing the bankruptcy petition
• Cash management motion – to get permission to continue using existing cash and accounts for normal business operations
• Notice motion – to establish procedures for notifying creditors and other parties with interest in the case
• Critical vendor motion – to get permission to pay unpaid balances due to creditors whose goods or services are critical to continued business operations

Other motions can also be filed depending on circumstances.

Automatic Stay

Filing of a bankruptcy petition triggers an automatic stay on all creditors, meaning that all collection efforts, including judgments, litigation, levies, foreclosures and repossession of assets, must halt. This gives the debtor time to develop a reorganization plan without having to worry about collection efforts. However, it is common for some creditors to seek relief from the stay so the debtor is obligated to make payments to those creditors. When this happens, the debtor and creditor litigate the case until it is resolved in settlement or through court decision.

Avoidance Powers

Chapter 11 of the U.S. bankruptcy code gives debtors in possession and bankruptcy trustees the authority to “avoid” or undo payments and transfers of property made prior to filing the petition. These powers apply only to payments/transfers made up to 90 days prior to filing (or 1 year prior for transfers made to relatives, general partners and other insiders of the debtor). Avoidance of a payment or transfer means the recipient must return or “disgorge” the money or property to the debtor so it can be used to pay all creditors. Avoidance powers are intended to keep debtors from giving unfair preference to certain creditors by paying them before filing for bankruptcy.

Executory Contracts and Unexpired Leases

Many debtors filing for Chapter 11 bankruptcy have uncompleted contracts (known as executor contracts) and lease obligations that have not expired at the time of filing for bankruptcy. Bankruptcy law gives debtors the option of either assuming these contracts and leases and continuing them or reject them to end the debtor’s obligation. If a contract or lease is rejected, the other party may object and litigation will ensue to resolve the matter. Generally, the debtor has until the reorganization plan is confirmed by the court to assume or reject contracts and leases. However, the deadline does not apply to leases of nonresidential real property, which has a maximum deadline of 210 days, and the court has some ability to extend deadlines.

Creditor Claims

Many times creditors who are not listed in the debtor’s schedule of creditors (or are listed on the schedule as disputed, contingent or unliquidated) will come forward with a claim against the debtor. These creditors must show proof of their claim to the court. The debtor, trustee or other interested party may object to the claim, in which case the matter must be resolved through legal motions or litigation.

Litigation

In addition to avoiding transfers, objections to rejected contracts/leases and disputed creditor claims, other issues may be raised that must be dealt with through litigation in bankruptcy court. Generally, all such matters should be resolved prior to submitting a reorganization plan for confirmation. Some form of litigation should be expected by every debtor filing for Chapter 11 bankruptcy.

Reorganization Plan

For the first 120 days after filing a petition for bankruptcy under Chapter 11, the debtor has the exclusive right to submit a reorganization plan for confirmation. After 120 days, creditors and other interested parties may also submit reorganization plans against which the debtor’s plan must compete. The bankruptcy court may extend the exclusivity period for up to 18 months if the debtor requests. A reorganization plan outlines the steps the debtor will take to pay creditors and get back on track financially. It includes payment plans and payment amounts along with any operational changes, business strategies or sale of assets that will take place to achieve solvency.

Acceptance of Plan, Dismissal or Conversion to Chapter 7 Bankruptcy

Once submitted, the plan is voted on by the creditors’ committee – a group of people representing various classes of creditors – to confirm or reject the plan. If a class of creditors rejects the plan, the debtor may be able to force the plan through anyway (known as a “cram down”) as long as the plan is fair to the objecting class of creditors and meets statutory requirements.

If no reorganization plan is confirmed, the court will either dismiss the bankruptcy case or convert it to a Chapter 7 bankruptcy. If dismissed, the debtor’s situation, including debt obligations and delinquent accounts, reverts back to prepetition status. If converted to Chapter 7, the debtor must liquidate all non-exempt assets and use the proceeds to pay debts to creditors. If the debtor is a business, a Chapter 7 bankruptcy results in dissolution of the business.

Discharge and Implementation of the Plan

Once the plan is confirmed, whether by vote of the creditors’ committee or bankruptcy judge, the debtor’s debt obligations are discharged and the debtor must implement the plan. Depending on details of the plan, implementation can take several months to several years to complete.

The Final Decree

Once the reorganization plan is carried out and completed, the bankruptcy court must enter a final decree and close the case. At this point all creditors should be paid (or discharged in some cases) and the debtor can resume business without oversight of the court.

Find Out What Details of Your Chapter 11 Bankruptcy Case May Be Different

The above outline describes the general circumstances involved in most Chapter 11 bankruptcy cases, but many variances and details have been omitted for ease of understanding. Before deciding whether to file for Chapter 11 bankruptcy, consult with an experienced Maryland Chapter 11 bankruptcy attorney to find out how your bankruptcy may vary from circumstances described above and what special conditions may apply to your case.

In Maryland, bankruptcy attorney John Burns and his firm can help you determine whether a Chapter 11 bankruptcy, another form of bankruptcy, or a non-bankruptcy solution will serve your needs best. Call our office at 301-441-8780.