How COVID-19 and the CARES Act Will Impact Chapters 7, 11 and 13 Bankruptcy Cases
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act” or “Act”), a $2.2 trillion stimulus package aimed to mitigate the unprecedented economic consequences of the coronavirus or COVID-19, was passed into law. This article discusses the temporary modifications to the United States Bankruptcy Code incorporated into the CARES Act and COVID-19’s impact upon debtors and creditors embroiled in Chapters 7, 11 and 13 bankruptcy cases.Chapter 11 Filings
A wave of bankruptcy filings is anticipated in the wake of the COVID-19 outbreak forcing companies to restructure and formulate creative solutions to protect their value as they ask bankruptcy courts and secured lenders to cooperate when administering reorganizations in these turbulent economic times. While no standard procedure has been implemented, the newly altered economic landscape will require the flexibility of the courts to pave the way for successful Chapter 11 cases in the near future.
Chapter 11 debtors will seek to ‘bend, but not break’ the rules to garner relief in ways that may not be done strictly in accordance with the governing Bankruptcy Code or the manner reorganizations have traveled in the past. This new world we are entering will open the door for creative debtors and their counsel to appeal to bankruptcy courts that short of certain relief they are seeking, the reorganization attempt will fail and employees will lose jobs.
For example, Chapter 11 debtors may need a ‘pause’ in their case so as to minimize costs or related catastrophic outcomes resulting from the pandemic due to the restrictions on nonessential businesses, the virtual closure of businesses overnight, the elimination of revenue streams, and the inevitability of massive employee layoffs. Debtors will be looking for creditor consensus, such as a friendly landlord agreeing to rent abatement, to achieve their ultimate goal of a successful restructuring.
The unique challenges of today’s economy may prove far more damaging than in the 2008-2009 real estate crash according to some prognosticators, as entire industries are drowning in the paralyzing world-wide impact of the virus. Former healthy companies may find themselves parked in bankruptcy court to maneuver through this new normal.
On the other hand, lenders are expected to be more lenient in declaring borrower defaults to help stave off a bankruptcy filing or avoid a liquidation of the assets serving as collateral. A forced or rushed liquidation does not serve its purpose and will lead to minimal recoveries and deflated results for both the debtor and lender. The aforementioned ‘pause’ will promote the preservation of a company’s value as opposed to a fire sale of assets, undoubtedly resulting in a loss to the secured lender.COVID-19 Relief Payments from the Federal Government Excluded from Income Analysis; Modifications to Chapter 13 Repayment Plans
The determination of a debtor’s “income” is an important analysis in the decision of whether an individual may seek relief under a Chapter 7 liquidation or be guided into a Chapter 13 personal repayment program. In Chapter 13, repayment periods are designed for individuals to achieve bankruptcy court confirmation of a repayment plan, which saves one’s home from foreclosure by curing a defaulted mortgage or lien from a homeowner’s association and repaying general unsecured creditors over a usual period of 36-60 months. The amount of a debtor’s available monthly income is an important factor in determining the amount of a debtor’s monthly repayment obligation and the length of the repayment period.
The CARES Act modifies the definition of “current monthly income” provided for in the Bankruptcy Code at 11 U.S.C. § 101(10A) to expressly exclude payments received by a debtor relating to COVID-19 relief from the federal government and, further, that said relief payments made to individuals do not constitute “disposable income” required to be included in a Chapter 13 debtor’s repayment plan. The amended definition of “disposable income” inures to the benefit of current Chapter 13 debtors who did not have confirmed plans as of the date of enactment of the CARES Act, as well as future Chapter 13 debtors.
The CARES Act also permits Chapter 13 debtors with repayment plans that were confirmed as of the date of enactment of the CARES Act to request modifications of their plan due to economic hardships the debtor will experience as a result of COVID-19. The CARES Act created an addition to 11 U.S.C. § 1329, the provision of the Bankruptcy Code governing modifications to a Chapter 13 plan after confirmation by the court, to allow a debtor to modify a confirmed plan, upon court approval, if such debtor is experiencing a “material financial hardship” due “directly or indirectly” to the COVID-19 pandemic. The CARES Act, under certain circumstances, may also allow a debtor with a confirmed plan to extend the repayment period up to seven years after the first payment under the original confirmed plan became due. Notably, Chapter 13 debtors with a plan confirmed before the date of enactment of the CARES Act will have one year from March 27, 2020, within which to seek a plan modification consistent with this amendment.
While the CARES Act does not define the depth of a “hardship” arising from COVID-19 or the extent of proof that will be necessary to clear this hurdle with the bankruptcy court, it is unclear at this time what bankruptcy courts will deem to be a “material financial hardship” necessary to support a plan modification. While bankruptcy courts favor personal reorganizations, it may prove apparent that many current debtors with confirmed Chapter 13 plans will meet the qualifications for “material financial hardship” directly or indirectly arising from COVID-19. Time will tell how debtor-friendly bankruptcy courts will interpret this requirement.Impact of the CARES Act Provisions on Chapter 13 Creditors
On the other side of the coin in a Chapter 13 case is the creditor, such as secured mortgage lenders and homeowners associations, as well as general unsecured creditors such as credit cards. At this time, what kind of plan modifications a Chapter 13 debtor will seek and what types of modifications bankruptcy courts will allow is unclear. However, it is anticipated that creditors in Chapter 13 cases will be forced to work with debtors to reach court approval of these plan modifications. Doing so will enable the debtor to maintain in Chapter 13, save their home from foreclosure and, at the same time, permit secured creditors the ability to realize an acceptable repayment modification, which may likely include payment deferments. It is further likely that bankruptcy courts will see a drastic hike in requests for plan modification so that debtors and creditors will need to work through these issues expeditiously.
As noted, Chapter 13 bankruptcy allows an individual to cure defaults concerning liens (mortgages and homeowners associations) on his or her principal residence. See 11 U.S.C. §1322(c)(1). We cannot predict how bankruptcy courts will rule upon plan modifications that propose deferment of plan payments to secured creditors. Still, it is anticipated that courts will consider deferment of ongoing payments combined with a plan to repay post-petition arrearages over an extended plan period. Importantly, if a Chapter 13 debtor is directly paying his or her ongoing mortgage or association dues to the creditor outside of the plan, the new changes to plan modifications may not apply. However, it may emerge that a debtor paying his or her secured creditors directly could amend their plan to incorporate post-petition arrears to these direct pay creditors through a modified plan going forward. Ultimately, plan modifications proposed by debtors and approved by the courts will be addressed on a case-by-case basis.The Uncertainties Ahead
Abundantly clear are the thoughts and expectations that COVID-19 may have a drastic and generational impact on our communities and economic futures. Siegfried Rivera will continue to update our clients and analyze COVID-19 developments concerning bankruptcies and other topics.