Court OK's chapter 11 for personal bankruptcy.
A United States Supreme Court decision will bring some financial relief to personal bankruptcy filers by allowing them to use Chapter 11. This was previously interpreted by most state courts to be applicable only to businesses. The ruling will affect filings by people with some assets, such as real estate, which are worth more than the limits imposed by Chapter 13.
"It has always been the law that individuals can file Chapter 11 in this circuit," said Howard Karasik, a bankruptcy specialist with Sherman Citron & Karasik. "Now the rule (in other states) is what is in New York."
Michael Lehman, a partner with Lehman & Alter, a Livingston, New Jersey firm which handles many real estate bankruptcies, said Chapter 11 is designed for someone who has significant assets such as a large cash portfolio or stocks and bonds. "You see it mostly with regard to the real estate market," he noted.
In the past, Lehman said, judges did not usually look favorable on Chapter 11 filings by individuals. "They looked on it as a stalling tactic that was used to buy time," he said.
The eight to one decision in Toibb vs. Radloff allowed a Missouri lawyer with some stock assets to file under Chapter 11. Sheldon B. Toibb had first filed under Chapter 7 believing his stock in the closely-held Independence Electric Corporation was worthless.
Once Toibb filed for bankruptcy, his partners began making offers for the stock. There was also some indication that the company might begin producing hydro electricity for resale, transforming the worthless stock into something quite valuable. Toibb attempted to refile under Chapter 11 but was thwarted by a Federal Bankruptcy judge who said Toibb was an individual who was not engaged in an established and practicing business, and could not use Chapter 11. Toibb took the matter to the Supreme Court where it was decided in his favor.
Chapter 7, the previous choice by most individuals, requires the liquidation of assets and the payment of a trustee, which adds more costs to the debtors. Chapter 11, allows the reorganization and retention of some assets by the filer if they can generate income. Chapter 13 requires filers to also pay a trustee and retain some assets, but its use is limited to debtors owing under $100,000 in unsecured debt and $350,000 in secured debt.
Credit card bills are considered unsecured debt while a home or other real estate financed by mortgages is considered secured debt.
Lehman said a lot of real estate is owned by individuals for tax reasons. But now real estate has appreciated so much that someone who owns houses can have mortgages in excess in of $350,000. So, Lehman concluded, there are real estate developers who own several hundred million in real estate and have mortgages. If the owner could not use Chapter 11, he was forced to do a workout out of court. And if he was required to file in Chapter 7, Lehman said, he could "lose everything."
Lehman is currently representing several individuals who are using Chapter 11. "They have accumulated large amounts of property and have large vacancy rates in their properties," he said. This has forced them to seek bankruptcy protection so the properties are not sold in foreclosure sale for "pennies on the dollar," he said. By filing the bankruptcy the owner can reorganize and retain the properties.
The Supreme Court decision will now allow the use of Chapter 11 in every state by individuals who are operating an ongoing business, such as a real estate broker, an attorney or as in the Toibb case, someone with possibly valuable stock.
"A lot of property owners are betting on the economy to turn around," Lehman explained. The filing holds off the bank from foreclosing on the property until the judge decides on the viability of the plan. This depends on the value of the property and whether or not the debtor can demonstrate to the court and to the creditors that the property is necessary for an effective reorganization.
There are various tests to meet to prove to the court whether or not there is equity or a property is necessary, Lehman said. "If they can demonstrate that," he said, "they can hold off the banks in the bankruptcy court. If they can't demonstrate this or if the judge says it was filed in bad faith or not necessary, then the bank gets the automatic stay lifted so it can go to foreclosure."
Richard M. Liebman, a partner with the Rockville Centre attorneys, Liebman & Liebman, said the Toibb case is an important decision in bankruptcy law. "I think it expresses the intent of Congress," he observed.
Chapter 7 filings, the law says, may be used by all debtors except railroads, banks and insurance companies. While Congress said all debtors eligible for Chapter 7 could use Chapter 11, it excluded its use by stockbrokers, commodity brokers and railroads.
The personal Chapter 11 allows the individual time to seek relief and restructure debt, Lehman said. "He is either finding new financing or shedding away the undesirable properties. Then he is left with a bunch of properties which are good, effective properties, that can help the individual to reorganize and become a performing debtor and make payments to his creditors.
"The whole basis of the bankruptcy code," Liebman said, "is to allow an individual to get a fresh start and to reorganize and repay debts."
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|Title Annotation:||US Supreme Court|
|Publication:||Real Estate Weekly|
|Date:||Jul 24, 1991|
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