This post is part of a series of posts entitled First Considerations for the Financially Distressed Business. For a comprehensive list of articles contained in this series, click here.
Although an out-of-court restructuring is preferable to filing for bankruptcy in most circumstances, exceptions can arise leading a debtor to determine that an out-of-court restructuring is not the best option. Instead, the debtor may need a more formal process with specific rules and procedures that must be followed. This brings us to a discussion of the bankruptcy process.
Filing bankruptcy is a much more structured process than an out-of-court restructuring. It is highly supervised by a federal bankruptcy court and has specific rules and procedures that must be followed. Because of this, a formal bankruptcy proceeding can be expensive and time-consuming. Additionally, a bankruptcy filing is not confidential. The public will have knowledge that the company or individual is going through bankruptcy; a fact that customers, suppliers, and employees may not view favorably.
However, there are also benefits to filing for bankruptcy – one of which is the introduction of the automatic stay. As discussed above, the automatic stay under U.S.C. § 362 of the Bankruptcy Code stops secured lenders from foreclosing and suspends all interest and principal payments on prebankruptcy debt until a reorganization or liquidating plan is confirmed. This protection is unique to bankruptcy and not available in out-of-court restructurings. It is meant to provide those filing for bankruptcy with “breathing room”; allowing debtors time to develop a plan of action.
Federal district courts hold original and exclusive jurisdiction over bankruptcy cases. 28 U.S.C. § 1334(a). However, it is the normal practice of district courts to automatically refer all bankruptcy cases to bankruptcy courts. Filing for bankruptcy is a complicated process and one that normally requires the assistance of an attorney. In order to commence a bankruptcy case, the debtor’s attorney must file certain documents with the correct bankruptcy court. Upon filing these documents, the automatic stay immediately goes into effect.
In the context of bankruptcy, a debtor is the individual or entity who files for bankruptcy relief. See 11 U.S.C. § 301. There are many different types of bankruptcies under which a debtor can file for protection. These include: chapter 7 (liquidation); chapter 9 (municipality); chapter 11 (reorganization); chapter 12 (farming reorganization); or chapter 13 (debt repayment). Each of these (with the exception of chapter 9) are discussed in more detail in their individual articles.
Generally, anyone can file for bankruptcy. The only constraint is that a person must “reside or have a domicile, a place of business, or a property in the United States.” 11 U.S.C. § 109(a). A “person” is defined in the Bankruptcy Code as an individual, partnership, or corporation; or in limited defined circumstances, a governmental unit. See 11 U.S.C. § 101(41). However, not everyone may qualify for a particular kind of bankruptcy. Additionally, if you have previously filed for bankruptcy, your options may be further limited. One important consideration is that an individual may not be a debtor unless and until that individual has received credit counseling by and approved agency within 180 days of the bankruptcy filing. See 11 U.S.C. § 109(h)(1).