Bankruptcy is a complex and often misunderstood process, particularly for lenders navigating the challenges of protecting their interests. Misconceptions can lead to missed opportunities or unnecessary losses. Below are six common myths about borrower bankruptcy filings, and the facts that lenders need to know.
Myth: Borrowers Always Walk Away Unscathed in Bankruptcy
Fact: Bankruptcy is not a “get out of jail free” card for borrowers.
While bankruptcy allows borrowers/debtors to restructure or discharge debts, filing for bankruptcy has consequences. A debtor may have to liquidate assets or may lose the protection of the automatic stay on a lender’s right to enforce its state law remedies, such as proceeding with a foreclosure sale. If the court lifts the automatic stay, the lender is once again allowed to enforce its state law remedies. Individual debtors often face years of poor credit scores and significant restrictions on future financial activities. Lenders should keep in mind that bankruptcy often forces borrowers into tough decisions that may create opportunities for strategic negotiations.
Myth: A Borrower’s Bankruptcy Filing Always Means a Total Loss for the Lender
Fact: Secured lenders have rights and may recover funds.
One of the most damaging myths is that a borrower’s bankruptcy automatically leaves the lender empty-handed. In reality, secured creditors—those with collateral backing their loans—are given a specific set of rights in bankruptcy proceedings. Properly documenting your security interests and understanding your rights under the Bankruptcy Code is essential to recovering as much as possible.
Myth: Bankruptcy Proceedings Are Too Complex to Navigate Effectively
Fact: With skilled legal counsel, lenders can protect their investments.
Attorneys specializing in lender-side bankruptcy law can identify opportunities to recover funds, challenge questionable claims brought by debtors or trustees, and negotiate favorable terms.
Filing a proof of claim to establish the lender’s full claim, monitoring proceedings, ensuring that the debtor’s proposed plan properly treats the lender’s claim and protects their interests, and advocating for their rights as a secured creditor are just a few ways a lender can ensure their voice is heard in any bankruptcy case; Whether it be a chapter 7, chapter 12, chapter 13 or chapter 11 bankruptcy case.
Myth: The Automatic Stay Means You Can’t Take Any Action Ever
Fact: The automatic stay has exceptions and workarounds.
When a borrower files for bankruptcy, the automatic stay temporarily halts collection actions. While this is a roadblock, it is often not a permanent one.
A lender can file a motion to lift the automatic stay on collection efforts, especially when: (i) the fair market value of the collateral is worth less than the liens against it; (ii) the collateral is at risk of losing value; (iii) the debtor is failing to meet its payment obligations during the case; (iv) the debtor cannot demonstrate that it will be able to make plan payments if a plan is confirmed; or (v) the debtor is failing to comply with the court’s mandatory administrative and filing obligations.
Being proactive is key to minimizing losses during this period.
Myth: If the Collateral Value Drops, You’re Out of Luck
Fact: Bankruptcy law provides safeguards for declining collateral.
Collateral depreciation can be a major concern for lenders, but adequate protection provisions in bankruptcy law sometimes offer a solution. A lender can seek additional safeguards from the court, such as requiring the debtor to make adequate protection payments during the case to compensate for any decline in collateral value, when relief from stay is not granted. Understanding and asserting these rights is critical for preserving the value of your investment.
Myth: Only Borrowers Need Legal Representation in Bankruptcy Cases
Fact: Skilled legal representation is essential for lenders.
Bankruptcy is a legal battleground and lenders need an experienced advocate to protect their interests. A knowledgeable attorney can help a lender navigate the complexities of bankruptcy law, challenge unfair terms, and ensure the debtor complies with procedural requirements. By leveraging expert advice, lenders can maximize recoveries and minimize financial setbacks.
Partner with Experts to Protect Your Interests
Understanding the truth behind “bankruptcy myths” is crucial for private lenders seeking to safeguard their investments. With the right strategies and legal counsel, lenders can navigate bankruptcy proceedings effectively and even turn challenges into opportunities.
For more information on protecting your rights and optimizing outcomes during bankruptcy cases, contact our Litigation and Bankruptcy team today. We’re here to provide tailored advice and support to meet your needs.
