Bankruptcy: A Basic Primer and Overview

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A Basic Primer on BankruptcyArkansas TIPS 2011 Stewart Title Guaranty Company John Rothermel Senior Vice President SW States Regional Counsel

WHAT IS BANKRUPTCY? • Bankruptcy is a creation of the US Constitution designed to give a debtor a way to reorganize his financial situation. • Section 8 provides: [Congress shall have the power] To establish an uniform Rule of Naturalization, and uniform Laws on the subject of Bankruptcies throughout the United States;

WHAT ARE THE BASIC KINDS OF BANKRUPTCY • Chapter 7: Liquidation • Chapter 11: Reorganization • Chapter 13: Wage Earners Plan of Reorganization

WHO ARE THE PLAYERS? • Debtor= person(s) owing money • Creditor= person(s) or entities to whom money is owed • Trustee: Person Appointed by the Bankruptcy Court to oversee the affairs of the Debtor. • Bankruptcy Court: Special statutory court charged with implementing bankruptcy laws

SOME BK TERMS • Estate: everything owed by the Debtor • Automatic Stay: protection provided by the BK code to a debtor to keep creditors from taking actions to collect their debt. • Lift: Court order for the BK court allowing collection efforts including 4closure of a mortgage • Free and clear: Court order allowing property to be sold without payment of lien

OTHER TERMS • Discharge: freedom of the debtor from payment of the debts • Unsecured claims: general debts not secured by a lien against real or personal property • Debtor in possession: debtor granted power to run business as though debtor was a trustee

MORE TERMS • Plan: in a reorganization, the list of assets and debts; which will be sold and which paid and the percentage of debt that will be paid and which discharged • Core Proceedings: the basic actions done in the case (more on this later)

DETAILED REVIEW OF BK • Virtual Underwriter Section 2.04 contains extensive written materials on many aspects of bankruptcy law and practice. • See vuwriter.com • Stewart Bulletins: NL 000087 and SLS2009018

FOREIGN BANKRUPTCY • A foreign bankruptcy proceeding does not have jurisdiction of U.S. land. The owner also must join with any foreign estate representative or ratify and confirm the conveyance on behalf of the owner. In the alternative an ancillary proceeding may be brought in the U.S.

COMMENCEMENT OF PROCEEDING • Voluntary Proceeding • A voluntary proceeding is commenced by the filing of the petition. The commencement constitutes an order for relief. • Joint Case • A joint case is commenced by the filing of a single petition by both spouses.

INVOLUNTARY PROCEEDING • An involuntary proceeding may be commenced only under Chapter 7(liquidations) or under Chapter 11 (reorganization). It may not be filed against government units, a farmer, or an eleemosynary institution. It may be commenced on the petition of: (a) three or more entities with noncontingent, unsecured claims totaling at least $10,775; (b) one or more holders of claims whose claims total at least $10,775 if there are fewer than 12 holders; or (c) fewer than all general partners of the partnership in question, or any general partner or holder of a claim or the trustee if all general partners are debtors for whom an order for relief has been granted. A title company's claim as assignee of promissory notes does not become a contingent claim in connection with an involuntary bankruptcy petition filed against the borrower simply because the debtor asserts a counter claim under its owner's title policy. • The debtor in an involuntary case retains control and possession of his or her property unless the court orders otherwise, or until an order of relief (that the bankruptcy case proceed) is granted, or until the interim trustee is appointed.

INVOLUNTARY PROCEEDING • Company Policy: If the debtor in an involuntary case sells property before the order of relief is granted, require a copy of the notification of the proposed sale, certification by the party mailing the notice that notice was sent to all interested parties, and a final order of the bankruptcy court authorizing sale.

CONVERSION • Conversion of a case to a proceeding under a different chapter constitutes an order for relief. Conversion terminates the services of a trustee or examiner appointed before the date of conversion. According to one view, court orders lifting stays, approving stipulations, rejecting executory contracts and other matters are not negated by an order of conversion. According to another view, conversion creates a new order for relief and stay, and compels the creditor to file a new motion for relief from the stay to proceed with its collateral. Upon conversion from Chapter 13 to Chapter 7, the exemptions will be reconsidered and the trustee and all interested parties may make objections. • Company Policy: If a sale, loan or foreclosure after lift of stay has not been consummated prior to the conversion of a case to a different chapter, require a new order. A new entity controls the estate and that entity must comply with the procedures for sale, loans and other matters.

REOPENING CASES • A case may be reopened in the same court to administer previously unadministered assets or for other causes as necessary. • Can be a serious issue when title company discovers that significant property in debtor’s name was not disclosed to court • Fraud or mistake • Not up to us; Case needs to be reopened.

CREDITOR'S INITIAL MEETING • There shall be a meeting of creditors after appropriate notice, within a reasonable time after the order for relief. The bankruptcy judge may not attend the meeting. The debtor must appear and submit to questions by all interested parties.

CORE PROCEEDINGS • matters concerning the administration of the estate, • allowance or disallowance of claims or exemptions, • counterclaims by the estate, • obtaining of credit, • turnover of property, • preferences, • motions to terminate or annul or modify the stay, • fraudulent conveyances, • dischargeability of debts, • objections to discharge, • validity or priority of liens, • confirmation of plans, • use or lease of property, • sale of property other than property resulting from claims brought by the estate against persons who have not filed claims, and • liquidation of assets.

NONCORE PROCEEDINGS • are those proceedings entitled "related proceedings" under the prior Emergency Rules. Noncore proceedings include a determination of title to real estate or tort suits. A bankruptcy judge may hear a "related proceeding." The judge shall submit proposed findings of facts and conclusions of law to the district court. The district judge shall enter the final order or judgment after considering the proposed finding and after reviewing de novo those matters to which any party has timely objected. • Company Policy: Require that any order in a noncore matter (such as a determination of title to real estate or lien priority) be signed by a district judge (not the BK judge) pursuant to an adversary proceeding.

APPEALS • Company Policy: Determine that the order in the bankruptcy court on which you are relying is not being contested and that the order is final. • This can be verified by letter from counsel, review of the file and docket sheet, or a clerk's certificate as to finality (after 10 days following entry of an order of sale, mortgage, lease or confirmation; after 30 days on other orders). If the order is not final and nonappealable, call a senior underwriter for approval. • Factors we consider in relying upon the order include: (1) whether anyone objected to the proposed order; (2) whether a notice of appeal or motion objecting to the order has been filed; (3) whether the transaction involves a sale or loan solely to an unrelated third party for new value (contrast a lift of stay and contrast a sale to participants in the debtor); (4) whether the court has determined that the lender or purchaser is acting in good faith; (5) whether all advances will be made at closing (if not, the appellate court may be more likely to fashion other relief); (6) size of the transaction (reinsurance is unlikely if an appeal is pending unless we except); and (7) sufficiency of representation on any appeal.

TRUSTEE OR DEBTOR? • In a Chapter 7 proceeding, a trustee is in charge of the estate. • In a Chapter 11 proceeding, a debtor-in-possession generally controls and manages the estate and sells the property. However, a trustee may be appointed. • Company Policy: In a Chapter 11 proceeding, review the docket sheet to verify whether the debtor controls the estate as a "debtor-in-possession" or whether a trustee has been appointed. If the debtor-in-possession is selling, verify that the debtor retains authority to sell property. The debtor may be deprived of authority to sell by the court.

LAND OF THE DEBTOR • Upon the filing of a bankruptcy, an estate is created. The estate consists of the debtor's interests, both legal and equitable, in all property, both tangible and intangible. The estate includes all land owned by the debtor or in which the debtor has an interest. For example, the estate includes title to land where the debtor had deposited a deed in escrow and the deed had not been delivered by the escrow agent to the grantee at the time of filing of the petition. Property of the estate includes the debtor's interest as a residuary beneficiary in a probate court proceeding pending in a state court (and, consequently, the automatic stay applies to probate proceedings until relief from the stay is granted). While perhaps a loosely worded conclusion, it has been said that title to the debtor's property "vests in" or "vests with" the trustee. It has also been said that the bankruptcy estate is a separate legal entity.

AFTER ACQUIRED TITLE • Any property acquired by the debtor by gift, devise, or inheritance, or as a result of a property settlement agreement in a divorce within 180 days after the filing of the bankruptcy, is property of the estate. Any property acquired during the bankruptcy as proceeds of property of the estate is part of the estate.

UNSCHEDULED PROPERTY • The property of the debtor vests in the estate and is subject to the bankruptcy proceeding regardless of whether it is listed on the schedules and regardless of whether schedules are actually filed. If the property is not scheduled, the case is closed, and the property is not otherwise administered or abandoned, then it remains subject to the jurisdiction of the bankruptcy court. Property not scheduled in a Chapter 11 case does not revests in the debtor after confirmation of the plan. On the other hand, if the case is dismissed, all property of the estate, regardless of whether scheduled, revests in the debtor. It is possible to have the case reopened to administer or abandon the property. Section 727(e) allows a revocation of discharge within 1 year after discharge (for fraud) or 1 year after the later of discharge or closing of case (for fraudulent concealment of property). These time limits do not prevent the trustee from later reopening a case to administer assets that were fraudulently concealed. If a note and deed of trust to a debtor are not scheduled and the bankruptcy is closed, the note and deed of trust remain property of the estate; the bankruptcy case must be reopened to receive payment for the note. The automatic stay does not terminate upon closing if the property remains property of the estate. • Company Policy: Require a court order reopening the case and authorizing sale or abandonment of the property, after notice to interested parties if (1) the property was acquired by the debtor before the proceeding was filed or was otherwise property of the estate of the debtor, (2) the case has been closed, (3) the property was not formally abandoned or dealt with, and (4) the property was not scheduled.

STAY AND 4CLOSURE • The stay prohibits foreclosure of liens against property of the estate or foreclosure of preexisting liens or claims against property of the debtor. The stay also may prohibit acts in connection with the foreclosure, such as recordation of the sheriff's deed after foreclosure. The majority view is that the stay prohibits acts such as filing a foreclosure deed after the bankruptcy commences.

STAY AND 4CLOSURE • Company Policy: Require lift of stay to authorize the filing during the bankruptcy of a sheriff's or trustee's deed executed before the bankruptcy

MECHANIC'S LIENS AND RELATION BACK • The automatic stay does not prevent a mechanic's lien claimant from filing a lien claim after the filing of the bankruptcy if the lien claim and priority relate back prior to the bankruptcy. If the lien claimant must file suit to perfect the lien, the claimant can file a notice in accordance with Section 546(b)

MECHANIC'S LIENS AND RELATION BACK • Company Policy: Do not rely on a filing of a bankruptcy to ignore possible unfiled mechanic's liens for recent construction.

MOTION TO LIFT OR ANNUL STAY • It is possible for a creditor to file a motion in accordance with Section 362(d) to lift or annul the automatic stay. The creditor need not file an adversary proceeding. The Code and Bankruptcy Rules do not require notice to unsecured creditors of a motion to lift stay. Local rules often require that parties with inferior liens on the property be given notice but the Code and Bankruptcy Rules promulgated by the Supreme Court do not require notice to inferior lienholders. • If the court does not act within 30 days after the request for relief is filed, then the stay is terminated with respect to the movant unless the court extends the time for a hearing and orders the stay continued in the interim. The final hearing on a motion to lift stay must be concluded not later than 30 days after the conclusion of the preliminary hearing. • Company Policy: If more than 30 days have passed since the filing or delivery of notice of the motion for relief from the stay, you may rely upon a certified copy of the motion, a current docket sheet, a certificate of service and a clerk's certificate (or credible counsel's letter) that no objection or request for hearing was filed.

SALE OF PROPERTY OUT OF ESTATE • Abandoned Property • If property has been properly abandoned by the estate, then a purchaser may rely upon a deed from the debtor (with any necessary corporate resolutions) without motion, notice, or order of sale. • Company Policy: If the debtor sells abandoned property while the bankruptcy is pending and receives cash proceeds (in excess of lien payoffs and closing costs), require joinder or consent by the trustee (after notice), or notice to the estate creditors (if the debtor is a debtor-in-possession), unless you secure approval from our underwriting personnel. The abandonment may otherwise be attacked.

SALE OF PROPERTY OUT OF ESTATE • Exempt Property • Rule 4003 (b) specifies a 30-day limit after conclusion of the creditor's meetings to file objections to the scheduling of property as exempt. If no objections are made and the time to object is not extended, the property (or equity) which is scheduled as exempt is no longer part of the estate. A debtor generally does not need a court order to sell property once it is exempted in a Chapter 13 case. However, local rules may require court approval of the sale or refinance of a principal residence, even after confirmation. • Company Policy: If property has been fully exempted (not simply an equity interest) and set aside to the debtor, you may rely upon the evidence (scheduled as exemption without objection for 30 days after meeting of creditors is adjourned) that it is exempted and you may insure a deed from the debtor without further court order in a Chapter 7 or Chapter 11 case. In a Chapter 12 or Chapter 13 case also secure court approval unless you determine that the local rules do not require such approval. Also obtain approval of the trustee in a Chapter 12 or 13 case. If only an equity interest is exempted (e.g., portion of gross value), require that the remaining interest be abandoned. If only an equity is exempted and the remaining interest is abandoned, you may not insure the sale if the net proceeds to the debtor exceed the equity exemption unless you secure approval from our underwriting personnel.

SALE OF PROPERTY OUT OF ESTATE • Exempted property may not be sold by the trustee. However, the court may order sale of property if only a portion is exempt and the property cannot be divided. • Company Policy: If the trustee is offering to sell property in the estate of an individual debtor, verify that the property is not scheduled as exempt. If a debtor in a Chapter 12 proceeding schedules farmland as exempt, you should require court approval of the sale with notice to interested parties. The farmland is generally essential to the plan.

SALE OF PROPERTY OUT OF ESTATE • Ordinary Course of Business • The debtor in a Chapter 13 proceeding (Section 1304), the debtor-in-possession (Section 1203) subject to any court limitations in a Chapter 12 proceeding, the trustee in a Chapter 7 proceeding (Section 721) if authorized, and the debtor-in-possession (Section 1107) (or trustee if appointed) subject to any court limitations in a Chapter 11 proceeding can sell real property in the ordinary course of business without notice or court order. An ordinary course of business sale of real estate is not plausible in a Chapter 12 or Chapter 13 proceeding. • Company Policy: Do not rely upon the provision authorizing sales in the ordinary course of business in a Chapter 12 or Chapter 13 proceeding without underwriter approval. It is possible in a Chapter 11 or a Chapter 7 proceeding to have a sale in the ordinary course of business. On a case-by-case basis, we will rely on a deed from the debtor-in-possession or trustee in a Chapter 11 or Chapter 7 proceeding if the schedules reflect a large inventory of real estate, if the transaction involves only a transfer of isolated lots or tracts of relatively small value, and if we secure an opinion of counsel for the debtor or a credible affidavit by the trustee or debtor that the particular transaction is in the ordinary course of business. In a Chapter 7 proceeding, the court must authorize a trustee to continue the business of the debtor in order for this provision to apply.

SALE OF PROPERTY OUT OF ESTATE • Not Ordinary Course of Business • Most sales of real estate will not be in the ordinary course of business. There may be sales where property is free and clear of liens. Sometimes, there are other co-tenants. There may be an adverse claim or claim to an equitable interest in the property, reflected by a suit and lis pendens. The trustee in a Chapter 7 proceeding, debtor-in-possession (or trustee if appointed) in a Chapter 11 proceeding subject to any court limitation, debtor-in-possession in a Chapter 12 proceeding subject to any court limitations, and the debtor in a Chapter 13 proceeding may sell real estate other than in the ordinary course of business. If the sale is to be made free and clear of liens and payment will not fully satisfy the liens, then the trustee (not simply the debtor) in a Chapter 12 proceeding should sell the property with the liens to attach to the proceeds. The sale must be "after notice and a hearing." The phrase "after notice and hearing" means that the trustee or debtor is to give notice in accordance with the Bankruptcy Rules and that no actual hearing or order is needed unless there is an objection and request for hearing. However, if the sale is made free and clear of liens, the rules appear to require that a hearing shall be held. According to one view, a trustee need not file a motion to sell free and clear of liens (or secure an order of sale) if the trustee provided proper notice of a proposed sale under Section 363(f) and no objections have been filed, notwithstanding rule 6004(c). • Where "notice and a hearing" are required, then the court may refuse to sign a "comfort order"; instead "a suitable procedure exists whereby a clerk's certificate for recording purposes may be obtained, which certifies that no objections or requests for hearing were filed.“ • Company Policy: If the sale is free and clear of rights of a co-owner, require (1) proof of notice to the co-owner (in accordance with Rule 7004), (2) a specific final order requiring and determining necessity of partition by sale, (3) a notice to other interested parties of proposed sale. The complaint and notice of sale to all interested parties may be combined in the adversary proceeding. The law does not expressly allow a sale free and clear of liens against a cotenant.

IF THE SALE IS TO BE MADE FREEAND CLEAR OF LIENS • (i) the notice by the trustee or debtor-in-possession and order specifically describing the liens as to which the sale is free and clear;(ii) recitation in the order that the lien(s) (which must be specifically described) attach(es) to the proceeds;(iii) evidence that the lienholder was given notice (for example, by appearance of the creditor at the hearing, or satisfactory certificate of service);(iv) a recited justification under section 363(f) in the court order to allow the sale free and clear, except in a Chapter 12 proceeding where the trustee joins. For example, search for recitation that the lien is in dispute (if so, the dispute must be specified) or that the lienholder consents, or that the sales price exceeds (the value of) all liens or that the sale involves only a portion of land covered by the lien;(v) a court order authorizing the sale that is final as evidenced by a an attorney's letter or review of docket sheet;(vi) verify the liens as to which the sale is free and clear are not ad valorem tax liens, or hazardous waste clean-up liens or other governmental assessments or charges (you should secure underwriter approval in such case);(vii) determine that the sale is not to a party related to the debtor; and(viii) verify that the property was not scheduled as exempt. • If you cannot secure these requirements, call our underwriting personnel

EXEMPT PROPERTY IN BANKRUPTCY CASE • Federal and State Exemptions • Debtors are given the choice of using state exemptions or, if the state does not prohibit the federal exemptions, federal exemptions of $16,150 (or for case commencing prior to April 1, 1998, $15,000) (plus wildcard of $850 or for cases commencing prior to April 1, 1998, $800) of equity. The amount of the federal exemption shall be adjusted every three years. Joint debtors must choose only state or federal exemptions. If they cannot agree, they will be deemed to have chosen the federal exemptions if the state has not opted out. There is conflict as to whether spouses in a joint filing can separately claim the exemptions of state law or are entitled only to one set of exemptions. • If the BK’s residence has been in Arkansas, continuously, for two (2) years or more, you are allowed to elect either the Arkansas Constitutional Exemptions or the Federal Exemptions, no mixing between the two are allowed. Usually the Federal Exemptions are best to use, unless you have substantial equity in your home.

ARKANSAS CONSTITUTIONAL EXEMPTIONS • You may exempt your homestead, regardless of value, if you are married or have dependants, subject to acreage restrictions. The acreage restrictions are: one quarter (1/4), of an acre for urban property and eighty (80) acres for rural property. Additionally, you may exempt your clothes, and up to $500 of any other personal property if you are married or have dependants or $200 if single with no dependants. If two spouses are filing, the exemptions would be $500 each plus your homestead, plus your clothing.

NON-DISCHARGEABLE DEBT • The Bankruptcy rules say that certain debts are non-dischargeable and will still be owed after going through the Bankruptcy process, unless it is paid through the Bankruptcy process. The most common non-dischargeable debts are as follows: • Taxes, with limited exceptions; • Alimony, maintenance or support (also child support); • Criminal fines, tickets, criminal hot checks or restitution; • Damage resulting from driving while intoxicated; • Some property-debt division Orders in a divorce; • Some debt incurred within ninety (90) days of the date of filing a Chapter 7; • Student loans guaranteed by the Government, with limited exception (undue hardship); • Debt obtained by fraud

AFTER DISCHARGE CHAPTER 11 PROCEEDING • A Chapter 11 proceeding may provide for a sale of all, or substantially all of the assets of the estate. However, except as otherwise provided in the plan or in the order confirming plan, confirmation vests all the property of the estate in the debtor. • Generally, a transfer by the debtor that is inconsistent with the Plan may be avoidable in a later converted case, even though the asset was revested in the debtor by the Plan. • Company Policy: You do not need to require an order of the court to sell property if the property is vested in the debtor and if the plan and order do not preclude a sale. The plan and confirmation should be carefully reviewed to verify this fact. However, in any sale of all or substantially all of the assets of the debtor after confirmation of the plan but during the case, we should secure court approval. The sale may be considered a liquidation or modification of plan.

AFTER DISCHARGE-CHAPTER 13 PROCEEDING • Section 1303 provides that the debtor has the right to sell property of the estate other than in the ordinary course of business. The plan may provide for the vesting of property of the estate in the debtor or any other entity upon confirmation or at a later time. The plan may provide that assets do not vest in the Chapter 13 debtor until a discharge is granted, thereby deferring the vesting of such assets in the trustee until that time. Property of the estate vests in the debtor upon the confirmation unless the plan or the order confirming plan states otherwise. Four lines of cases have emerged: the first line holds that property of the estate ceases to exist after confirmation of the Chapter 13 plan and the property of the estate revests in the debtor; the second line holds that the Chapter 13 estate continues after confirmation of the plan; the third line holds that all but the property of the estate which the debtor needs to fund the Chapter 13 plan vests in the debtor post-confirmation and the estate is then replenished by property acquired post-confirmation; and the fourth line concludes that property which vests in the debtor is that which is property of the estate at time of confirmation and the estate is then replenished by property acquired post-confirmation. • Local Rules may require the debtor to secure trustee approval or a court order to authorize consumer debt. Local Rules may require a modification of plan to incur debt. Local Rules may require court approval of a sale or refinancing of the debtor's principal residence (even after confirmation). • Company Policy: If the debtor offers to sell, we do not require an order of sale or court proceeding if the property has vested in the debtor and is not subject to the plan in a Chapter 13 proceeding or approval pursuant to local rules. Verify that the court has not provided that the property shall remain subject to the court jurisdiction until the discharge and that the local rules do not require approval. We also require a letter from the trustee reflecting no objection to the sale.

BASIC TAKE-AWAYS • BK cases can be filed almost anywhere • Filing creates an estate • Filing creates a stay against collection • Most everything pre-discharge requires court approval • If there is a plan it should be followed • Cases can reopened in case of fraud in hiding assets

Bankruptcy: A Basic Primer and Overview