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Announcements
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Counselor
FALL 2005
- Bankruptcy – An Overview of
Changes in the Law
- Calendar Calls
- Dates to Remember
- FCSMCC - A Team Approach
- Of Note
Bankruptcy – An Overview of Changes in the Law
by Gary M. Kushner, Esq.
On April 20, 2005, President Bush signed into law˜
the Bankruptcy Abuse Prevention and Consumer˜ Protection
Act (?the Act?). The Act took effect˜ October 17, 2005 and,
with some exceptions, its˜ provisions will apply only to
cases filed after this˜ date.
The Act?s business bankruptcy provisions˜ promise to make
it more difficult for distressed˜ companies to successfully
reorganize. From limiting˜ timeframes for plan exclusivity
and lease˜ assumption, to drastically curtailing a debtor?s
ability˜ to structure and implement an employee retention˜
plan, the Act appears to curtail a debtor?s flexibility˜
in formulating a reorganization plan.˜
At Forchelli, Curto, Schwartz, Mineo, Carlino &˜ Cohn, LLP
(FCSMCC), we represent many clients retail and service providers
(both professional and˜ commercial) and those involved in
lending, real˜ estate, and construction ? who may feel the
effects˜ of the Act. This summary briefly addresses some
of˜ the key provisions affecting commercial real estate˜
transactions, including landlord rights, mortgage˜ implications,
sales of goods, tax issues and other˜ commercial aspects
of Chapter 11 practice. Some of˜ the more important changes
to consumer˜ bankruptcy law are also highlighted.˜
Commercial Real Estate Provisions
The Act?s changes to the present Bankruptcy˜ Code will force
debtors to make decisions earlier in˜ the bankruptcy proceeding
with respect to their˜ interests under leases for non-residential
real˜ property and other types of executory contracts. The˜
60-day period within which a debtor must assume or˜ reject
unexpired leases of non-residential real property is extended
under the Act to 120 days from˜ the petition date. However
a debtor may only obtain˜ a single 90-day extension of this
deadline for˜ ?cause? where previously, there was no limitation˜
for an extension. Any further extension can be˜ granted
only with the affected landlord?s written˜ consent. Moreover,
if a debtor fails to file a motion˜ to either assume or
to reject the lease within 120˜ days, the unexpired lease
will automatically be˜ deemed ?rejected.?˜
While it appears that the Act is, generally, favorable to
lessors of commercial property, there are favorable provisions
for the debtor/tenant, as well.
The Act excuses a debtor/tenant from curing non-˜ monetary
defaults that are impossible to cure.˜ However, if the non-monetary
default is based on a˜ failure to operate under the lease,
then (1) the˜ default must be cured by the debtor before
the lease˜ can be assumed; and (2) the debtor must˜ compensate
the landlord for losses resulting from˜ the default.
The Act places a cap on damages for a lease that is˜ assumed
during the Chapter 11 case, but is then˜ subsequently rejected.
With certain exceptions, the˜ Act limits the landlord?s
recovery under these˜ circumstances to a sum of money which
would be due˜ under the lease for only the two (2) year
period˜ following the later of the lease rejection date
or the˜ date when the premises is turned over to the landlord.˜
Despite this claim limitation, the amendment vastly˜ increases
landlord leverage. It is not unreasonable to˜ expect that
a lively market may arise where large˜ landlords can extract
significant concessions or˜ payments in exchange for the
required written˜ consent to further deadline extensions.
With the Act, two new exceptions from the˜ automatic stay
are established for the benefit of˜ landlords seeking to
evict a debtor/tenant. The first˜ allows the continuance
of any eviction proceeding in˜ which the landlord obtained
a judgment of˜ possession prior to the filing of the bankruptcy˜
petition. The second deals with evictions based on˜ ?endangerment?
of the rented property or ?illegal˜ use of controlled substances?
on the property. The latter provision excepts the eviction
proceeding˜ from the stay if (1) it was commenced before
the˜ filing of the bankruptcy case, or (2) if the˜ endangerment
or illegal use occurred within the 30˜ days before the bankruptcy
filing. In either˜ situation, the landlord would be required
to file with˜ the court and serve on the debtor a certificate
setting˜ out the facts giving rise to the exception.
Sales of Goods
The Act provides sellers of goods with˜ substantially enhanced
rights to payment or˜ reclamation of goods delivered to
a debtor prior to˜ bankruptcy which were unpaid as of the
filing date.˜ First, administrative expense priority will
be˜ accorded to claims for goods delivered within 20˜ days
of the petition date. Second, a seller may˜ reclaim goods
sold in the ordinary course of business˜ if the debtor received
the goods while insolvent,˜ within 45 days of the petition
if the seller demands˜ reclamation within the requested
time period. The˜ seller may assert this administrative
claim even if it˜ fails to demand reclamation.
Since the deadlines and procedures to be˜ followed in connection
with reclamation claims are˜ sensitive and strict, we strongly
encourage clients to˜ provide this information to FCSMCC
immediately˜ upon learning of a Chapter 11 case.
Single Asset Real Estate Cases
In previous modifications to the Bankruptcy˜ Code, Congress
drafted special provisions˜ specifically applicable to ?single
asset real estate?˜ cases. Essentially, a single asset case
applied to˜ debtors who owned a single piece of real estate,
be˜ it commercial or residential units larger than 4 units,˜
which generated substantially all of the gross˜ income of
the debtor and on which the debtor?s˜ business was solely
to operate this real property.
The single asset case was limited to $4 million in˜ secured
claims; i.e., if the mortgage loan was more˜ than $4,000,000,
the lender was forced to deal with a˜ debtor in general
Chapter 11 context without the˜ benefit of the ?single asset?
protections. The Act˜ eliminates this cap; thereby expanding
the benefits˜ of this statute to larger properties.
The banks and other financial institutions which˜ FCSMCC
represents have been advised to make˜ further inquiry as
to these changes, as the Act will˜ now enable a lending
institution or other secured˜ creditor to implement their
remedies much sooner˜ and to avoid the delays which invariably
occur in a˜ Chapter 11 case.
One of the significant remedies provided under˜ the Act
is a provision which entitles a secured˜ creditor to relief
from the automatic stay to˜ commence or continue a foreclosure
action on the˜ later of the 91st day after the case is filed
or 30 days˜ after the Court determines that the case qualifies
as˜ a ?single asset case? unless the debtor either (1)˜
makes monthly payments in an amount equal to˜ interest at
the then applicable non-default contract˜ rate or, (2) files
a confirmable plan of reorganization.
Automatic Stay
Lenders will now have heightened protection˜ under the Act
from abusive and/or bad faith˜ bankruptcy filings which
are motivated by˜ underlying real estate issues or disputes.
Lenders˜ are entitled to relief from the automatic stay
in order˜ to commence a foreclosure if the bankruptcy case˜
was commenced as part of a ?scheme to delay,˜ hinder, and
defraud creditors? and involves either˜ (1) a transfer of
property ownership without the˜ consent of the lender or
the court, or (2) multiple˜ bankruptcy filings affecting
the same property. In˜ this case, a court order, rendered
in response to a˜ lender?s motion, would be effective for
two (2) years˜ and would apply in subsequent bankruptcy
cases,˜ provided such order is filed in with the appropriate˜
real estate records.
A new ‹362(c)(3) of the Act provides that if a˜ Chapter
7, 11, or 13 case is filed within one year of˜ the dismissal
of an earlier case (other than a Chapter˜ 11 or 13 case
filed after a ‹707(b) dismissal), the˜ automatic stay in
the second case terminates 30 days˜ after the filing, unless
a party in interest˜ demonstrates that the second case was
filed in good˜ faith with respect to the creditor sought
to be stayed.
Miscellaneous Provisions
In the recent spate of cases involving˜ extraordinary assets,
issues of executive˜ compensation have received more media
and public˜ attention than any other aspect.
The Act prohibits payments and obligations to an˜ insider
(generally, officers and directors of the˜ debtor) unless
demonstrated to meet certain criteria;˜ i.e., that the compensation
is justifiable and the˜ insider is essential to the debtor?s
business. The˜ insider?s payment may not exceed 10 times
the˜ mean severance given to non-management˜ employees in
the same year.
Severance for executives is similarly limited in the Act.
A severance program may be approved only if it is available
to all full-time employees.
Also, the Act permits the avoidance of a transfer to˜ an
insider under an employment contract,˜ irrespective of the
debtor?s financial condition or˜ solvency at the time of
the contract, if the transfer˜ was outside the ordinary
course of business and the˜ debtor received less than reasonably
equivalent˜ value in exchange. Accordingly, one should expect˜
that all transactions with a debtor?s executives˜ within
two years of the petition date will receive˜ increased scrutiny.
Indeed, the amendment may be˜ an invitation to sue former
management.
The rights of utilities are also enhanced by the Act˜ by
providing that their entitlement to ?adequate˜ assurance?
under Bankruptcy Code ‹366 requires˜ payment of cash or
a similar deposit. More˜ specifically, the Act provides
that prior payment˜ history; proof of post-petition financing
and˜ allowance of an administrative claim cannot˜ constitute
adequate assurance. At a minimum, a˜ debtor with a large
number of locations, or heavy˜ energy needs, will have to
budget for substantial˜ deposits or letters of credit.
Consumer Changes
There are significant changes in the Act which will˜ radically
affect personal bankruptcy. Paramount˜ among these are:
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mandatory credit counseling from an approved˜ non-profit
agency.˜
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restrictions on ?serial? filings which will not˜ enable
a debtor in a chapter 13 case to be discharged˜ of debts
if a prior discharge in a chapter 7 or 11 was˜ issued
within 4 years of the new filing or within 2˜ years
of the filing of a previous chapter 13 case.˜
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a chapter 7 debtor cannot receive a discharge if a˜
prior discharge was received within the 8 years˜ (present
law is 6 years) of the new filing.˜
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reaffirmations of debt mandate new and specific˜ disclosures
and must offer the debtor the right to˜ rescind.˜
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the new law limits the application of the automatic˜
stay or provides that it does not go into effect at
all in˜ serial filings, among other situations. (Clients
are˜ encouraged to contact FCSMCC as your rights˜ against
a debtor will not be automatically stayed.).˜
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domestic support obligations are now a first˜ priority
in the payment scheme under the new Act.˜ A debtor?s
failure to timely make support payments˜ during the
course of a bankruptcy case is grounds for immediate
dismissal.
FCSMCC Advisors
FCSMCC?s extensive and comprehensive practice˜ areas are
brought to bear in analyzing new laws and˜ preparing our
clients for the effect upon both their˜ business and personal
plans.
The Act provides significant rights, which affect˜ transfers
to asset protection trusts, educational˜ retirement accounts,
state tuition programs and˜ employee plans. In these situations,
a trustee will be˜ required to establish that the transfer
was made in˜ connection with avoiding a particular claim,
rather˜ than simply as a general asset protection device.˜
At FCSMCC, we are recommending that our˜ clients consult
with the firm?s extensive estate˜ planning department as
it is essential to consider˜ how best to deflect future
hindrances a trustee of an˜ estate plan might face should
an unexpected˜ bankruptcy become necessary.
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