The Effects of
Bankruptcy
On the Transfer of Real Estate
Bankruptcy is something that no one wants to have to deal with,
but it does help to be familiar with the effects bankruptcy can have in the event that it’s necessary.
Here we’ll list some of the common terms to know when dealing with bankruptcy, followed by a few different ways in which a bankruptcy can affect the transfer of your property.
Please Note: This summary is general information only and should not be acted or relied upon as legal advice or a legal opinion. Anyone requiring legal counsel for specific facts or circumstances should consult an independent attorney.
Bankruptcy Terms
Filing: The debtor, or in some cases a creditor of the debtor, files a petition with the bankruptcy court.
Dismissal: If the debtor does not qualify to be a debtor under the requirements governing a bankruptcy case, or, if the debtor fails to comply with court orders or statutory requirements, the bankruptcy will be dismissed, meaning the debtor and any property of the debtor is no longer subject to the supervision of the bankruptcy court.
Automatic Stay: At the moment a bankruptcy case is filed, an order known as the "Automatic Stay" is entered which prevents any creditors from pursuing any actions against the debtor or the property of the debtor, unless specifically allowed by court order.
Discharge: A Chapter 11 or Chapter 13 bankruptcy case is discharged upon the completion of an approved Plan of Reorganization. After a discharge, the debtor can usually sell, purchase or finance real property without formal court approval. A Chapter 7 case is often discharged before it is closed. A court order approving any transaction is necessary prior to closing any such transaction.
Closed: A bankruptcy filed under Chapter 11 or 13 is closed when the bankruptcy is completed. A
bankruptcy filed under Chapter 7 is closed when the trustee has disposed of all assets of the
bankruptcy estate and filed an accounting with the court. When a bankruptcy case is closed, it is
over and all bankruptcy court supervision is terminated.
Trustee: An individual appointed by the court in a Chapter 7 or 13 to supervise the conduct and completion of the bankruptcy. In a Chapter 11 the conduct and completion of the bankruptcy usually is supervised by the debtor in possession (the DIP), unless the court approves the appointment of a separate trustee. A DIP in a Chapter 11 may be either an individual or a corporation.
Abandonment: The process by which a trustee or DIP abandons property of the bankruptcy estate which has no equity or is not essential to the reorganization of the debtor. If property is abandoned from the bankruptcy estate, it is no longer subject to the jurisdiction of the bankruptcy court.
Closing a Real Estate Transaction
In a Chapter 7 case, and prior to court approval of a Plan of Reorganization in Chapters 11 and 13, court approval must be obtained in order to sell, transfer, purchase or finance real property. Court approval can take one of the following forms:
1. A court order signed by the bankruptcy court judge approving the transaction and approving all specific material terms and conditions of the transaction.
2. An order granting relief from the Automatic Stay, allowing the transaction to proceed, such as the continuation of a foreclosure action, the timeline for which is set forth below.
3. A written abandonment of the real property from the bankruptcy estate signed by the bankruptcy trustee assigned to the particular case. Local forms entitled "Request for Abandonment" are available from the bankruptcy court.
After a court order approving a Plan of Reorganization is entered by the court in a Chapter 11 or Chapter 13 bankruptcy case, the real estate transaction can be closed if it is specifically authorized in the Plan. If it is not specifically authorized, a court order must be obtained as set forth above.
Judgment Debts and Liens
The debts of the debtor incurred before the filing of the bankruptcy petition are usually discharged upon the entry of a "Discharge of Debtor" in the bankruptcy case. Certain specific debts such as alimony, child support, student loans, tax debts and debts incurred by reason of fraud are not dischargeable in a bankruptcy. However, the discharge of a debt is only a discharge of the debtor's personal liability for that debt. A judgment lien or lien evidenced by a security interest still attach to the real property of the debtor unless the lien is removed pursuant to an order of the court allowing the property to be sold free and clear of all liens and encumbrances or an order avoiding a specific lien. Such liens can also be removed by a Release of Lien signed by the judgment creditor or the secured party.
Fraudulent Conveyances and Preferential Transfers
A transfer of a debtor's interest in real property within certain time periods prior to the filing of a bankruptcy petition is subject to avoidance by the bankruptcy trustee (the trustee treats the transaction as if it did not occur and the property is included in the bankruptcy estate). In such cases, the trustee files an action with the Bankruptcy Court asking the Court to determine if the transfer was made with the intent to hinder, delay or defraud creditors of the debtor or to give preferential treatment to certain creditors to the detriment of other creditors, particularly transfers to "insiders," third parties connected to the debtor such as family members, friends, trusts, partners or corporate shareholders. Red flags to look for are transfers of title to insiders without payment or Deeds of Trust specifying an insider as the beneficiary where no money or actual value has been loaned. The bankruptcy trustee can avoid transfers to insiders made within ninety (90) days of the date of the filing of the petition and transfers to defraud creditors or for less than fair equivalent value made within a period of one (1) year of the date of the filing of the petition.
The Bankruptcy Abuse Prevention and Consumer Protection Act
The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) became effective on October 17, 2005. It is a piece of legislation that revised the United States Bankruptcy Code for cases filed on or after that date. In April 2005, BAPCPA was passed by Congress and signed into law by President George W. Bush as a move to reform the bankruptcy system.
In a Chapter 7 bankruptcy, most unsecured consumer and business debt is forgiven or discharged. This plan also allows for liquidation and sale of certain assets by a designated trustee in order to pay creditors.
Under BAPCPA, filing for Chapter 7 personal bankruptcy became more difficult as more stringent guidelines and eligibility requirements were defined. Essentially, the purpose was to make it more difficult for higher-income individuals to qualify for Chapter 7 bankruptcy by more closely examining the filer’s ability to repay their debts. The goal was to prevent the bankruptcy process from being abused and to encourage Chapter 13 filings instead of the more forgiving Chapter 7. Additionally, certain retirement assets, including both traditional and Roth IRAs, were given federal bankruptcy protection for the first time.