Chapter 11

The Rule No. 1 of bankruptcy is to DISCLOSE all the information the bankruptcy court asks you to DISCLOSE.

Primary purpose of Ch. 11 bankruptcy is to reorganize one’s financial affairs and continue the business. As such it is usually appropriate for businesses of all sizes. More recently, due to high secured debts (mortgages, car loans, and similar), many individuals find themselves in Ch. 11 although they are not engaged in any business activity. The minimum amount of secured debt needed to qualify for Ch. 11 bankruptcy is $1,081,400 and/or $360,475 of unsecured debts, such as credit card bills, medical bills, personal line of credit and similar. Often, in cases where real estate values have declined drastically, one can be forced into Ch. 11 bankruptcy simply because a god portion of secured debt has become unsecured. As an example, a $1,050,000 home with a $1,000,000 mortgage declines in value to $600,000. The amount of unsecured debt is now $1,000,000 minus $600,000 = $400,000. This forces the debtor into Ch. 11 even though the secured debt is below the $1,081,400 threshold. In cases where there are second mortgages and the second mortgage has become wholly unsecured, this mortgage may be stripped, i.e., removed as debt and the debtor no longer owes it. This is one of big advantages of Ch. 11 reorganization. An added advantage is the ability to pay mortgage arrearages at zero percent interest. In case of car loans it is possible to reduce the loan amount to the value of the car. So, if car is worth $10,000 and the loan balance is $15,000, the loan may be reduced to $10,000. In case of unsecured debts it is possible to stretch out payments over a prolonged period of time and often at just a few cents for each dollar owed.

Taxes may also be paid over a prolonged period of time at very reasonable interest rates. Unpaid portion of taxes will be discharged, i.e., you no longer owe the tax. The debtor typically remains in possession of the business or other assets and is designated as DIP (Debtor in possession). In the operation of business the DIP has substantially all the rights, powers, privileges and responsibilities of bankruptcy trustee. Most importantly, DIP remains in control unlike in Ch. 7 bankruptcy where the bankruptcy trustee takes control of the business and all assets.

DIP’s duties are to operate the business, preserve the assets for the benefit of creditors and reorganize the business under a Plan. DIP must propose Plan that is acceptable to creditors and confirmed by bankruptcy court. In addition to Plan debtor must also prepare a Disclosure Statement that has been approved by the court. A useful way to look at these two documents is that Plan tells the creditors what DIP wants to accomplish and Disclosure Statement explains why they should vote in favor of the Plan. Additionally, the US Trustee usually forms a creditors’ committee from the 20 largest unsecured creditors. In cases where DIP is not able to get the votes needed to confirm the Plan, DIP can try to convince the court to “cram down” plan on creditors.

The following are some of the Plan types available under Ch. 11 reorganization:

  1. Operating Plan
    Under this plan DIP continues to operate the reorganized business and usually pays the debts over time.
  2. Liquidating Plan
    This plan provides for sale of all of DIP’s assets as a going concern or on piecemeal basis. The proceeds are distributed in accordance with Ch. 7 priority scheme.
  3. Cash Plan
    This plan pays creditors a single lump sum on the plan’s effective date in full satisfaction of the creditors’ claims. Secured classes are generally paid higher percentage of their claims while unsecured classes receive a much more lower percentage.
  4. Pot Plan
    In a pot plan, the DIP places cash and/or other assets into a fund (the pot) to be distributed to creditors according to their Chapter 7 priorities.
  5. New Entity Plan
    Here, DIP is merged with or sold to another entity, The new entity assumes liability for creditor claims.

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