R8: M2: Bankruptcy: Part2.

Features of a Chapter 7 Liquidation.

(1.1). Objections to Discharge [debtor dishonest]. (1.2). Exceptions to discharge - FAT WED. (1.3). Reaffirmation of Discharged Debts: (1.4). Revocation of Discharge: Bad faith-dishonest. (1.5). Distribution of the debtor's estate: Payment and priorities.

Features of Reorganization Cases Under Chapter 11.

(2.1). Creation of Creditors' Committee. (2.2). Equity security holders' committee. (2.3). Debtor Generally Remains in Possession. (2.4). Chapter 11 reorganization plan. (2.5). Effects of confirmation.

(1.5). Distribution of the debtor's estate: Payment and priorities. (S). First priority support obligations to spouse and children. (A). Second priority administrative expenses. (G). Third priority: involuntary case Gap Claims. (W). Fourth Priority: Wage Claims up to $12,850.

(E). Fifth priority: Employee benefit plans up to $12,850. (G). Sixth priority: Grain farmers and fishermen up to $6,325. (C). Seventh priority : Consumer deposits up to $2,850. (T). Eight priority: tax claims. (I). Ninth priority: personal injury claims arising from intoxicated driving. (10). Nonpriority claims.

(2.1). Creation of Creditors' Committee. in a chapter 11 case, shortly after the order for relief is effective, a committee of unsecured creditors is appointed, usually consisting of willing persons holding the seven largest unsecured claims against the debtor.

A person engaged in business other than real estate with debts not exceeding about $2.6 million can elect to be treated as a small business. Such a debtor can request that a creditors' committee not be appointed.

☐ Debtor Not an Individual. technically, only individuals [i.e., real people as opposed to artificial entities, such as corporations] can receive a discharge under Chapter 7.

Artificial entities seeking relief under Chapter 7 usually are dissolved at the conclusion of the case, and so their debts are wiped out.

(3.3). Prohibition Against Discrimination.

Chapter 15 prohibits discrimination against foreign creditors [except certain foreign government and tax claims, which may be governed by treaty].

(3.4). Requirements of Notice and Cooperation.

Chapter 15 requires notice to foreign creditors concerning a U.S. bankruptcy case, including notice of the right to file claims. Under Chapter 15, U.S. courts and trustees must "cooperate to the maximum extent possible" with foreign courts and foreign representatives.

(I). Ninth priority: personal injury claims arising from intoxicated driving.

Claims for death or personal injury arising from the operation of a motor vehicle or vessel by the debtor while the individual was legally intoxicated have a ninth priority.

(G). Sixth priority: Grain farmers and fishermen up to $6,325.

Claims of grain producers or U.S. fishermen against a debtor who operates a grain storage facility or a fish produce storage or processing facility have a sixth priority up to $6,325.

Calculation of Cash distribution: Facts: Rivers has been involuntarily petitioned into bankruptcy. The following are claims and expenses against Rivers' estate: Claims and expense: Fees earned by bankruptcy trustee [admin.]: $15,000. Claims by secured creditors :$5,000.

Fees earned by attorneys for bankruptcy estate [admin]: $10,000 Claims by Rivers' employees for wages earned within 180 days of the filing of the bankruptcy petition: $2,000. Required: calculate the amount to be distributed to the trustee if cash available for distribution is $15,000.

(C). Seventh priority : Consumer deposits up to $2,850. consumer claims for a deposit made to a retail business prior to the retailer's bankruptcy are entitled to a seventh-level priority to the extent of $2,850 for each consumer.

For example, if a consumer made a $3,000 deposit for furniture to be delivered, but the seller files a bankruptcy petition prior to delivery, the consumer is entitled to a $2,850 seventh-priority and a $150 nonpriority claim.

(1.5). Distribution of the debtor's estate: Payment and priorities.

If there's no sufficient money to pay all creditors at a particular level, the creditors share pro rata.

☐ Operating a vehicle while intoxicated:

Judgements rendered against the debtor for death or personal injury incurred as a result of operating a motor vehicle, aircraft, or vessel while legally intoxicated survive the debtor's discharge.

(2.4). Chapter 11 reorganization plan. the debtor may file a reorganization plan under Chapter 11 any time during the bankruptcy case. Unless a trustee has been appointed, the debtor has an exclusive right to file a plan during the first 120 days after the order for relief is effective.

Other interested parties [e.g., creditors] may file a plan if: ☐ a trustee has been appointed; ☐ the debtor has not filed a plan within 120 days after the order for relief became effective; or

the examiners like to ask about the trustee in a Chapter 11 case.

Remember the general rule that a trustee usually is not appointed in a Chapter 11 case; the debtor usually remains in possession of the estate's assets.

(2.2). Equity security holders' committee. if the debtor is a corp., an equity security holders' [i.e., stockholders] committee may be appointed consisting of the seven largest holders of the equity securities to ensure that the equity security holders receive adequate representation.

The committees can consult with the debtor, investigate the debtor's finances, participate in preparing the reorganization plan, etc.

(1.3). Reaffirmation of Discharged Debts: Sometimes a debtor does not want a particular debt discharged in bankruptcy [e.g., to maintain good relations with a particular creditor].

The debtor may reaffirm such debts only if the agreement to reaffirm the debt was made before the granting of the discharge.

(1.1). Objections to Discharge [debtor dishonest]. creditors often want to prevent debtors from receiving a Chapter 7 discharge. The code provides two kinds of ammunition for such claims: objections to discharge and nondischargeable debts.

The first type of ammunition destroys the entire Chapter 7 case-- none of the debtor's debts will be discharged. The second type of ammunition prevents the discharge of specific debts. The following will prevent the debtor from receiving any discharge.

Features of a Chapter 7 Liquidation. The goal of federal bankruptcy law is to give an honest debtor a "fresh start" financially by discharging most debts owed by the debtor. In a liquidation, a bankruptcy trustee is appointed.

The trustee collects all of the debtor's nonexempt property, liquidates it, and pays off all of the debtor's creditors. Most debts of an individual are discharged [that is, the debtor is relieved from personal liability for most debts] but certain debts survive bankruptcy.

(1.5). Distribution of the debtor's estate: Payment and priorities. once the debtor's assets have been collected and liquidated, and all objects at that level have been disposed of, the trustee will distribute the assets of the estate.

There are three basic categories of claimants, paid in the following order: (1). Secured claimants. (2). Priority claimants [which includes nine subcategories]. (3). general creditors who filed their claims on time.

☐ Denial of Discharge in a Prior Bankruptcy: if a discharge was denied in a prior bankruptcy or a previous discharge was waived, debts that predate the prior bankruptcy are not dischargeable in a subsequent case.

This exception does not apply if the basis for denial in the prior case was that the debtor received a discharge within eight years.

(E). Fifth priority: Employee benefit plans up to $12,850. claims for contributions to employee benefit plans [e.g., health insurance or pension plans] receive a fifth-level priority if they arose within 180 days prior to bankruptcy.

This priority may not exceed $12,850 per employee and is reduced by the amount paid to each employee as a fourth-priority wage claim.

Remember that there are three restrictions on priority payments for unpaid wages and unpaid employee benefit plans: ♦ only unpaid wages and unpaid employee benefit plan expenses that arose within 180 days prior to the filing are entitled to a priority.

Those that are arose after filing are nonpriority claims. ♦ only unpaid wages and unpaid employee benefits up to $12,850 receive a priority. ♦ the $12,850 priority for unpaid employee benefits is reduced by any amount paid to the employee for a priority wage claim.

☐ Open-ended credit to consumers: cash advances obtained by a consumer under an open-ended credit plan are presumed to be nondischargeable if the debts are incurred within 70 days of the order for relief and exceed the aggregate amount of $950.

Thus, if a consumer makes purchases on a credit card in amount greater than $950 in the 70 days before the bankruptcy, the debt will survive bankruptcy.

The examiners often ask what debt will not be discharged by a bankruptcy. The key to remembering the six nondischargeble debts that most commonly appear on the exam is the word "WAFTED":

Willful and malicious injury, Alimony, Fraud, Taxes, Educational loans, and debts undisclosed in the bankruptcy petition.

(2.4). Chapter 11 reorganization plan. Other interested parties [e.g., creditors] may file a plan if: ☐ the debtor has filed a plan but has not obtained the acceptance of every impaired class

[e.g., creditors whose claims are reduced by the plan or will be paid later than contracted for] within 180 days after entry of the order for relief. (2.4.1). contents of the plan. (2.4.2). Acceptance of the plan by creditors. (2.4.3). confirmation of the plan by court.

it is important to understand the relationship between the exceptions to discharge and payment priorities. Some items are both a priority and an exception; other items are one, but not the other. Payment is made according to the priority rules

[without regard to whether the debt is excepted to discharge.] After all possible payments have been made any remaining debts are discharged unless they are one of the exceptions to discharge. In some cases, a debt that is an exception to discharge will have been paid in the distribution process.

☐ prior discharge within eight years.

a debtor is entitled to only one discharge within an eight-year period. Eight years must elapse before another discharge can be granted.

☐ Failure to explain loss of assets.

a debtor who is unable to explain satisfactorily the disappearance or loss of assets is not entitled to a discharge.

☐ Educational Loans:

an educational loan owed to a nonprofit institution of higher education or a student loan that is made, guaranteed, insured, or funded by a government agency or commercial entity is not dischargeable, unless it would impose an "undue hardship."

it is important to remember that a bankruptcy case does not discharge all debts. The examiners often ask a broad questions such as, "which of the following is true under the bankruptcy code?"

and one of the choices often is that "all debts of the debtors are discharged."- this is not true. The following debts survive bankruptcy.

(2.4.3). confirmation of the plan by court. ☐ A plan can be confirmed by the court even if it is not accepted by all impaired classes if at least one impaired class has accepted,

and the court finds that the plan is not unfairly discriminatory and is fair and equitable with respect to any dissenting impaired classes. This is called a cram down.

☐ Debts undisclosed in the bankruptcy petition:

any debt not scheduled or listed by the debtor in time to permit the creditor to file a timely proof of claim is nondischargeable, unless the creditor had notice or actual knowledge of the bankruptcy.

☐ Fines and Penalties:

any obligation to pay a fine, penalty, or forfeiture owed to a governmental unit, such as a traffic fine, survives the debtor's discharge, as do claims for court costs.

(2.4.2). Acceptance of the plan by creditors. ☐ Any creditor or equity security holder who has filed a claim against the debtor's estate must be given an opportunity to accept or reject the plan. ☐ a class of impaired claim is deemed accepted if it is accepted by creditors holding

at least two-thirds in amount and more than one-half in number of the allowed claims. ☐ a class of impaired interests [e.g., equity security holders] is deemed to have accepted the plan if it is accepted by equity security holders having at least two-thirds in amount of the allowed claims.

(G). Third priority: involuntary case Gap Claims.

claims that accrue in the ordinary course of business after an involuntary petition is filed, but before the entering of the order for relief or appointment of a trustee, receive a third priority.

☐ luxury goods:

consumer debts incurred for luxury goods [e.g., boat, jewelry, etc.] are not dischargeable if the debts aggregate over $675 to a single creditor an are incurred within 90 days of the order for relief.

☐ alimony, maintenance, support, and settlements from marital separation.

debts owed to the debtor's spouse, former spouse, or child [ in or out of wedlock] for alimony, maintenance, or support are nondischargeable, as are property settlements arising out of a divorce decree or separation agreement.

(S). First priority support obligations to spouse and children.

first priority goes to claims for domestic support obligations that are owed to a spouse, former spouse, or child of the debtor on the date the petition is filed.

(W). Fourth Priority: Wage Claims up to $12,850. employees who have claims for wages earned within 180 days prior to the filing of the petition receive a fourth priority. However, this priority is limited to $12,850 per employee.

for example, if an employee is owed $15,000 for wages, $13,000 of which was earned within 180 days prior to bankruptcy, the employee would have a $12,850 priority claim and a $2,150 nonpriority claim.

The examiners sometimes ask what will prevent a party from getting a discharge in bankruptcy.

historically on the exam, the most often tested reasons are the first five above. the choice that historically has appeared most often is failure to keep records.

(10). Nonpriority claims. any money that is left after paying secured creditors and the priority claimants is used to pay the general unsecured creditors who timely filed, pro rata.

if any assets are remaining after paying general creditors who timely filed, creditors who filed late receive payment.

☐ refusal to obey orders or to answer questions.

if the debtor refuses to obey a lawful order of the court, a discharge is denied.

(2.3). Debtor Generally Remains in Possession. in a chapter 11 reorganization case, committees are appointed to consult with and advise the debtor, but a trustee generally is not appointed.

instead, the debtor remains in possession of the debtor's assets because the debtor is presumed to be in the best position to run the business.

(3.2). Foreign Representative's Powers. The foreign representative is authorized to operate the debtor's business. Once recognized, a foreign representative may seek additional relief from the bankruptcy court and

is authorized to bring a full-blown [as opposed to ancillary] bankruptcy case under Chapter 7 or 11. The foreign representative may participate in a pending U.S. insolvency case and may intervene in any other U.S. case in which the debtor is a party.

☐ willful and malicious injury:

liabilities arising from willful and malicious injury to another are not dischargeable. However liabilities arising from negligent torts are dischargeable.

☐ Debts incurred by fraud, embezzlement, or larceny:

liabilities for obtaining money, property , or services by false representation or fraud, or through embezzlement or larceny, are not dischargeable.

The priority rules are perhaps the most heavily tested rules on the CPA Exam when it comes to bankruptcy issues. Your memorization of the order of payment and the dollar limitations specified below is key for success on the exam.

most important, though, remember that payments are made first to secured creditors to the extent of the value of the collateral securing their claims and that claims in excess of the collateral are treated like claims of other general creditors.

☐ Taxes due within years of filing:

most tax claims [federal, state, or local] are nondischargeable if the return for the tax was due within three years before the bankruptcy petition was filed.

(T). Eight priority: tax claims.

most tax claims are entitled to an eight-level priority.

[S]= Support obligations to spouse and children. [A]= Administrative expenses of bankruptcy proceeding. [G]= Gap creditors. [W]= Wages up to $12,850 for each employee if earned within 180 days prior to filing. [E]= Employee benefit plan contributions up to $12,850 for each employee,

reduced by wage claims, if earned within 180 days prior to filing. [G]= Grain farmers' and fishermen's claims up to $6,325. [C]= Consumer deposits for goods paid for but not delivered up to $2,850. [T]= Taxes. [I]= Injury claims caused by intoxicated driving.

(2.4.3). confirmation of the plan by court. ☐ the court will confirm the plan if it meets certain conditions,

such as being accepted by all impaired classes, providing for payment in full for priority administrative expenses and gap claims, and the plan is feasible [i.e., has a reasonable chance of succeeding].

$15,000 total cash available for distribution. Less: $5,000 secured claims. = $10,000 cash available for priority claimants. Because total administrative expenses [$15,000 trustee fee plus $10,000 attorneys' fee = $25,000] exceed cash available [$10,000], the cash available is prorated between

the administrative claimants. Since wage claims are a lower category, the employees would receive nothing. The trustee's distribution is calculated as follows: Trustee's distribution = trustee's claim x remaining cash available / total administrative expense. =$15,000 x $10,000 / 25,000 = $6,000.

☐ unjustifiably failed to keep books and records.

the debtor is not entitled to a discharge if he unjustifiably concealed, falsified, or failed to keep or preserve adequate books and records from which the debtor's financial condition or business transactions might be ascertained.

☐ Fraudulent Transfers or Concealment of Property.

the debtor is not entitled to a discharge if she transferred, destroyed, or concealed property in the year before or after the petition was filed with intent to hinder, delay, or defraud creditors.

(A). Second priority administrative expenses.

the expenses of a bankruptcy administration receive second priority. Bankruptcy administration expenses include costs of preserving the estate, trustee fees, filing fees, attorney and accountant fees, etc.

payments are made in full to secured claimants to the extent of the value of the collateral securing their claims [claims in excess of the collateral are treated like claims of other general creditors]. Whatever's left over then is used to pay first-priority claimants in full,

then second-priority claimants in full, then 3rd-priority claimants are paid, and so on. If money's left after paying all of the priority claimants, it's then split among the general creditors who filed claims on time.

The examiners frequently ask questions requiring candidates to prioritize debts. Remember that properly perfected secured creditors are paid up to the value of their collateral.

they are unsecured, nonpriority creditors for any deficiency. The order of payment for the nine priority creditors can be learned with the mnemonic SAG-WEG-CTI.

☐ after notice and a hearing, the U.S. court is authorized to issue an order recognizing the foreign proceeding as either a "foreign main proceeding" [i.e., a country where the debtor's main interests are located] or a "foreign non-main proceeding" [i.e., a country other than one

where the debtor's main interests are located]. upon recognition of a foreign main proceeding, the automatic stay and other provisions of the Bankruptcy Code take effect in the United States. The U.S. court is authorized to issue preliminary relief as soon as the petition for recognition is filed.

(1.2). Exceptions to discharge - FAT WED. Certain debts of an individual are not discharged under Chapter 7 or 11. Those debts not discharged are called the "exceptions to discharge" and include the following: ☐ Taxes due within years of filing:

☐ Debts incurred by fraud, embezzlement, or larceny: ☐ luxury goods: ☐ Open-ended credit to consumers: ☐ Debts undisclosed in the bankruptcy petition: ☐ alimony, maintenance, support, and settlements from marital separation.

(2.5). Effects of confirmation. ☐ a confirmed chapter 11 plan is binding on all creditors, equity security holders, and the debtor regardless of whether they accept the plan. ☐ Generally, once confirmed the debtor pays debts according to the plan.

☐ Unless the order provides otherwise, confirmation discharges the debtor from all pre-confirmation debts [except that debts not discharged under Chapter 7 are also not discharged under Chapter 11]. ☐ Confirmation also terminates the automatic stay.

(2.4.1). contents of the plan. A chapter 11 plan must, among other things: ☐ classify all claims [e.g., secured, first priority, second priority, impaired, unimpaired, etc.];

☐ describe the treatment to be accord each impaired class; ☐ treat each claimant within a particular class identically; and ☐ establish ways to implement the plan.

(1.1). Objections to Discharge [debtor dishonest]. ☐ Debtor Not an Individual. ☐ Fraudulent Transfers or Concealment of Property. ☐ unjustifiably failed to keep books and records.

☐ prior discharge within eight years. ☐ commission of a bankruptcy crime. ☐ Failure to explain loss of assets. ☐ refusal to obey orders or to answer questions.

(1.4). Revocation of Discharge: Bad faith-dishonest. A creditor or trustee may request that a discharge be revoked for the following: ☐ the debtor obtained the discharge fraudulently and the party seeking revocation did not discover the fraud until after the discharge was granted;

☐ the debtor acquired property that would constitute property of the estate and knowingly and fraudulently failed to disclose this fact;

(1.4). Revocation of Discharge: Bad faith-dishonest. A creditor or trustee may request that a discharge be revoked for the following: ☐ the debtor failed to obey a court order or answer material questions; or

☐ the debtor has not given a satisfactory explanation for a failure to make documents available in connection with an audit that may be ordered by the United States Trustee or for a material misstatement in such documents.

Commencement of Ancillary Proceeding. A chapter 15 ancillary case is commenced by a "foreign representative" filing a petition for recognition of a "foreign proceeding." this operates as the principal door of a foreign representative to U.S. courts.

☐ the petition must show the existence of the foreign proceeding and the appointment and authority of the foreign representative.

(1.2). Exceptions to discharge - FAT WED. Certain debts of an individual are not discharged under Chapter 7 or 11. Those debts not discharged are called the "exceptions to discharge" and include the following:

☐ willful and malicious injury: ☐ Operating a vehicle while intoxicated: ☐ Fines and Penalties: ☐ Educational Loans: ☐ Denial of Discharge in a Prior Bankruptcy:

☐ commission of a bankruptcy crime. in addition to constituting federal crimes, the following acts give rise to objections to discharge when committed knowingly and fraudulently in connection with the bankruptcy case:

♦ Making a false oath or account; ♦ presenting or using a false claim; ♦ giving or receiving a bribe; or ♦ withholding records or documents.

For example: ♦ if creditors are paid in full through the eight priority [tax claims, etc.], then the fact that a tax claim is an exception to discharge is irrelevant because it has been paid.

♦ if, however, payment is made only through the sixth priority, then any unpaid seventh priority [consumer deposits] claims are discharged [because they are not on the exception list]. Any unpaid eight-priority [tax] claims are not discharged because they are an exception to discharge.