Announcements | Articles | The 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:

  • mandatory credit counseling from an approved˜ non-profit agency.˜

  • 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.˜

  • 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.˜

  • reaffirmations of debt mandate new and specific˜ disclosures and must offer the debtor the right to˜ rescind.˜

  • 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.).˜

  • 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.

333 Earle Ovington Blvd.
Suite 1010
Uniondale, NY 11553
t: 516.248.1700
f: 516.248.1729
» View directions


Home | About The Firm | Attorney Profiles | Practice Areas | News & Publications | Contact Us

The OMNI • 333 Earle Ovington Blvd. • Suite 1010 • Uniondale, New York 11553
Phone: 516-248-1700 • Fax: 516-248-1729

©1998-2012, Forchelli, Curto, Deegan, Schwartz, Mineo & Terrana, LLP • All Rights Reserved.
Attorney Advertising • Prior results do not guarantee a similar outcome