A question we often get from clients and prospective clients is what can they do if they are owed money by a company that has filed for bankruptcy protection in New York. The answer depends on why they are money, when the debt arose, and what type of bankruptcy the company has filed.
1. Hierarch of Claims — Administrative, Secured, Priority & Unsecured
In bankruptcy cases not all claims are created equal. There is a hierarchy or rank order of claims that determines who comes first in the cash waterfall.
a) Administrative Claims. These are claims related to the administration of the debtor’s case. In a chapter 11 case administrative claims includes claims for goods sold or services provided to the debtor company after the date of bankruptcy filing. In addition, administrative claims in a chapter 11 case include post-bankruptcy use and occupancy charges related to the debtor’s real estate leases, and post-bankruptcy equipment and vehicle lease fees.
b) Secured Claim. A secured claim is a claim that is secured by collateral (i.e., a claim that has a lien on property of the debtor). Some common examples of secured claims are a mortgage secured by real estate, a vehicle loan secured by a vehicle, or a bank loan secured by the debtor’s assets or accounts receivable. In addition to these examples of voluntary secured claims, a debtor may be subject to involuntary secured claims, such as for tax liens or judgment liens.
c) Priority Claims. These are certain claims incurred prior to the debtor’s bankruptcy filing that are given priority (i.e., get paid ahead of other claims) as specified in the Bankruptcy Code. Common examples of priority claims are certain pre-bankruptcy wage and commission claims, certain taxes and other obligations to the government, and spousal and child support.
d) Unsecured Claims. General unsecured nonpriority claims typically include the debtor’s trade payables, unpaid utility payments, certain wages outside the priority period, and certain taxes outside the priority period, among others. Unsecured claims only receive a distribution if higher ranking claims have been paid in full.
e) Equity Interests. Equity interests are the interests of shareholders or a corporation or members of a limited liability company. Equity interests only get paid if unsecured creditors are paid in full. In most bankruptcy cases equity is wiped out andf doesn’t get paid anything.
2. When the Debt Arose
In bankruptcy a distinction is made between pre-bankruptcy claims, such as for goods or services provided prior to the bankruptcy, and claims that arose after the bankruptcy case was filed. Depending on what the claim is for, a post-bankruptcy claim is often entitled to administrative expense status and to get paid ahead of other types of claims. If a company first files for chapter 11 bankruptcy and later converts the case to a chapter 7 bankruptcy the administrative claims incurred during the chapter 7 phase of the case will be given priority ahead of the administrative claims incurred during the chapter 11 phase of the case.
3. Effect of Chapter of Bankruptcy Upon Recovery
In a chapter 11 case a debtor may seek to reorganize its business (although liquidation of a debtor’s assets in chapter 11 is possible), while in a chapter 7 case there is no reorganization and the debtor’s assets will be liquidated by a trustee to pay creditors’ claims.
In a chapter 7 case the asserts are sold for their liquidation value, which may be a deeply distressed or scrap value, so the overall recovery to creditors may be lower in a chapter 7 case than in a chapter 11 case.
4. Strategies for Creditors
A creditor first of all has to understand its position relative to other creditors in the money waterfall discussed above because this will inform the creditor’s decision about what to do. If the creditor is owed a post-bankruptcy administrative expense that the debtor has not agreed to pay in the ordinary course of its business the creditor will want to file a motion for allowance and payment of an administrative expense with the bankruptcy case. If the creditor is owed another type of claim it may wish to file a proof of claim with the court. If the creditor is a secured creditor it may wish to petition the Bankruptcy Court to lift the automatic stay to permit the creditor to enforce its nonbankruptcy rights, such as foreclosure under state law.
At Starr & Starr, PLLC we are active in representing creditors in bankruptcy cases. Please feel free to contact us at 888-867-8165 or by e-mail at firstname.lastname@example.org to schedule a consultation.