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Don't Throw Away Bankruptcy Notices

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Ronald D. Richards Jr. & Patricia J. Scott
Foster Swift Municipal Law News
September 26, 2013

Due to the recent economic downturn, many municipalities have received notice of a bankruptcy regarding one of its residents or businesses. Perhaps you have thrown that notice away assuming “all is lost.”

Below is a short, basic primer on bankruptcies – including reasons to give special care to any mail you receive about a bankruptcy case and how to protect a municipality’s interests that otherwise might be harmed during a bankruptcy.

What is voluntary bankruptcy?

Bankruptcy is filed by an individual or business to obtain financial relief. The person or business filing bankruptcy is referred to as a “debtor.”

Are there different types of bankruptcies?

Yes. There are basically two types of bankruptcy cases: (1) liquidation; and (2) reorganization. The first type, a Chapter 7 liquidation case, totally eliminates the debtor’s debt (except for very limited debts that cannot be eliminated). The second type, reorganization, a Chapter 13 for individuals and a Chapter 11 for businesses, reorganizes the debtor’s debt and provides partial debt relief.

Can a bankruptcy case eliminate debt the debtor owes?

Yes. Any debt that the debtor owes can be affected in a bankruptcy case. This could include, for example, installment loans, account receivables, and taxes. A few debts cannot be eliminated, such as certain, specific tax debts. Whether various tax debts can be eliminated depends on the type of tax and the tax’s due date. Some tax debt, such as a tax lien, may be eliminated (i.e. the debtor need not pay all of it) as to the debtor, but still remains attached to the debtor’s property.

Can a bankruptcy case impact ownership or anything else other than a debt?

Yes. A bankruptcy case could also put at risk interests in property - such as personal property - the municipality may own but which is in the possession of the debtor. This includes interests the municipality may have in the debtor’s property. In short, every interest that a municipality has that is related to the debtor is potentially at risk in a bankruptcy.

How do you find out there is a bankruptcy filing that potentially affects your interests?

The simplest answer is either by mail or word of mouth. By law, if a debtor owes a municipality money, the debtor must list the municipality as a creditor in its bankruptcy filing. Assuming the debtor does so, the municipality will receive documents from the bankruptcy court identifying the bankruptcy and noting how the debtor seeks to dispose of a debt owed or an item in which the municipality claims an interest. Bankruptcy courts issue various documents, but the most common that a municipality might receive regarding a debtor’s bankruptcy filing are the following:

  • Notice of Bankruptcy Filing: If the debtor lists the municipality as a creditor to whom the debtor owes money, the court will send the municipality a notice of bankruptcy;
  • Notices of Dividends, Motions for Relief From Stay, Debtor’s Plan: A municipality could receive a notice of possible dividends, a motion for relief from stay, or a debtor’s reorganization plan. The debtor’s plan generally relates to how the debtor intends to pay its creditors – i.e., how the payments will take place, how much the payments will be, at what interest rate, and over what marking period of time.

Each bankruptcy notice should be given careful attention and forwarded to a bankruptcy attorney to evaluate.

What if the debtor does not list the municipality as a creditor?

If the debtor does not list the municipality as an entity to which the debtor owes money, then the municipality will not receive any notice, even if the municipality is owed money. For that reason, a municipality must stay aware of the financial status of a person or company with whom it is doing business. If you hear news of a person or company filing bankruptcy, you can either investigate further, or ask an attorney to do a quick search of bankruptcy court cases.

What should a municipality do if it receives notice of a bankruptcy?

If you receive notice of a bankruptcy, you should immediately contact an attorney with bankruptcy experience. This is necessary because bankruptcy cases have many deadlines and are extremely time-sensitive. Although each bankruptcy case is different, often there is minimal attorney time needed to protect your interests. For example, if the debtor lists the municipality in the plan and the payment terms are acceptable, then minimal attorney time may be required. Next, the municipality must stop collection efforts against the debtor. From the moment a bankruptcy case is filed, bankruptcy laws require that all entities to which the debtor owes money must stop collection efforts. This does not necessarily mean that the municipality is giving up its claim to money owed. Rather, the municipality must pursue money owed through the bankruptcy case. The municipality should contact an attorney to determine how to proceed in the bankruptcy case to collect any debt owed.

What could happen if a municipality receives notice of a bankruptcy but does nothing?

Many potentially unfavorable things may happen if quick action is not taken. If the debtor proposes to pay less than what the debtor owes, then the municipality’s right to object may be lost if the municipality does not respond or misses the deadline to respond. Likewise, failure to respond timely could cause the municipality to lose its entire interest in the property possessed by the debtor (e.g., vehicle or property).