You’re a creditor in a bankruptcy – what now?

You’ve just received notice that someone who owes you money has filed for bankruptcy protection. What do you do now to ensure that you’re able to collect on that debt to the fullest extent possible?

First, it is important that you stop all non-bankruptcy related collection efforts. The filing of the bankruptcy proceeding triggers an automatic stay that stops all collection efforts other than the bankruptcy case. You should stop sending invoices or otherwise attempting to collect. You cannot perfect a security interest that was not previously perfected (i.e., you cannot file a UCC-1 or a deed of trust). You must stop any foreclosure proceedings that were pending. And if you were suing the debtor, the litigation will be temporarily halted. Collection efforts that continue after the filing of bankruptcy case in violation of the automatic stay can subject you to sanctions by the bankruptcy court.

Once you receive a copy of the debtor’s Schedules and Statement of Financial Affairs, you should locate your debt to determine if the debtor correctly listed it. Check that the debtor correctly indicated whether the debt to you is secured or unsecured. Check that the amount. And then look to see if the debtor indicated whether your claim is contingent, unliquidated, or disputed. If any of that information is incorrect, or the debtor marked your claim as contingent, unliquidated, or disputed, you will need to file a Proof of Claim. In a Chapter 11 case, if everything is listed correctly, you do not need to file a proof of claim. You will need to file a Proof of Claim in a Chapter 7 case where there are non-exempt assets to distribute, in a Chapter 13 case, or in a Chapter 11 case if anything is incorrect about the way the debtor scheduled the claim or it is marked contingent, unliquidated, or disputed. The deadline for filing a Proof of Claim will be on the notice of bankruptcy sent to you by the Bankruptcy Clerk.

If you are a secured creditor, you may consider filing a motion to terminate the automatic stay so that you can foreclose on your collateral, particularly if the debtor has no equity in the collateral. Alternatively, you may be entitled to adequate protection payments during the pendency of the bankruptcy case. Adequate protection payments are designed to ensure that the creditor’s interest in the collateral is not adversely impacted during the course of the bankruptcy.

In a chapter 7 case, the Chapter 7 Trustee will sell the debtor’s non-exempt assets and distribute the proceeds pro rata in accordance with the priority of claims.

In a chapter 11 case, the debtor will file a proposed plan of reorganization. You will need to read the plan carefully to understand how your claim is categorized and how much the debtor proposes to pay those claims. The proposed plan will also be accompanied by a liquidation analysis and feasibility projections. That information is provided so that creditors can evaluate whether to vote in favor or against the plan. Regardless of how you vote, if the plan is approved by the Court, you will be bound by its terms and your repayment is limited to the recovery under the plan.

Generally, companies do not receive discharges in bankruptcy, but individuals do. In the case of an individual debtor, certain debts are excepted from discharge. Some exceptions to discharge – like child support – are automatic. But in most cases, the exception to discharge has to be asserted by the creditor and decided by the Bankruptcy Court. Common exceptions to discharge include fraud, breach of fiduciary duty, and willful and malicious injury.
Bankruptcy is a unique process with some strict deadlines and procedural requirements. If you are a creditor in bankruptcy, we recommend that you consult with an attorney who specializes in bankruptcy law to determine how you might maximize your recovery from the debtor.

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