Bankruptcy Rights

Creditors have rights under the Bankruptcy Code, and it is important for them to know and understand their role in the proceedings. Many seek legal counsel to protect themselves during bankruptcy proceedings because laws can vary from state to state regarding exemption levels (the value of the property to be kept) and homestead rights (protection of the home's value from creditors). Since creditors have a financial interest in preserving any rights they may have, it may benefit them to take part in the bankruptcy proceedings and express their concerns. The court will consider their viewpoint and their position within the line of creditors.

Those creditors who are unsecured, with no collateral to support the outstanding debt, are most likely in the worst position to receive payment of claims. However, they may still recover at least part of the debt owed to them, depending on the classification of claims. Secured debt is debt that has collateral to be used in the event of default or used to secure the creditor's interest. Unsecured debt is a loan or debt without collateral and consists of priority and nonpriority claims. Priority, the order of claim payments, of unsecured debt is typically given to unpaid child support and taxes. Priority unsecured claims get paid before nonpriority claims. Most unsecured nonpriority debts are dischargeable in bankruptcy—in other words, the court can completely discharge or dismiss them. However, federal student loans are nondischargeable (not included in a bankruptcy) and therefore must be repaid.

Creditors also need to stop collection efforts once a debtor has filed for bankruptcy. If creditors fail to follow the automatic stay, they could face costly damages, including punitive damages, or punishment for disregarding the automatic stay. Creditors must file their claim with the appropriate court that will confirm and validate the debt. Creditors have a right to share in the bankruptcy estate, which is made up of the debtor's property rights and interests. Creditors may also take part in the discussions and decisions about priority of the repayments and liquidation of assets (converting assets into cash). Creditors' status as secured or unsecured creditor is vital in this phase of the bankruptcy proceedings. Creditors may give input to the court on matters that affect them, including the bankruptcy debtor's plan, the liquidation of non-exempt assets (assets that can be sold to repay creditors), and payments from the estate. The creditors also have the right to challenge the discharge rights of the debtor, and this can be in general or related to a particular debt owed. These rights require the creditor to stay in contact with the bankruptcy trustee (person overseeing the ownership of the debtor's property) or appointed officer and respond to court documents, hearings, and deadlines. Failure to follow the court's instructions during the bankruptcy proceedings could prove costly to creditors.

The Bankruptcy Code requires an automatic stay, which means that creditors must stop trying to collect debt from that person or business as soon as the bankruptcy petition is filed. This protection extends to cosigners of the respective debt who may or may not be part of the bankruptcy proceedings. Creditors must stop all collection efforts, including automated calls, e-mails, text messages, and direct mailings. Failure to comply will result in fines and most likely damages, including the possibility of punitive damages for deliberate and intentional disregard for the automatic stay.

A repossession is when a creditor seizes an asset of the debtor. This can happen when the debtor used the asset as collateral, or a promise to secure a loan with the understanding that it would be forfeited if the debtor defaults on the loan. This collateral typically has a lien, a security interest granted for an asset or property on behalf of the creditor by the debtor. Repossession may happen if the debtor still has the collateral and is in default of the loan. If the creditor has started repossession methods or efforts, then those must also cease at the notice of the bankruptcy filing. The automatic stay gives temporary relief for the debtor until the bankruptcy proceedings provide permanent relief. Bankruptcy is regulated in many areas to help protect consumers and creditors. One of the most important areas of regulation is the Dodd-Frank Act, which was implemented in 2010. The act protects consumers from creditors who may try to take advantage of them in areas of disclosure and rates and other areas of lending that are not easily understood by consumers.

Creditors that are secured, meaning they have a lien against an asset or property of the debtor, usually seek to repossess the asset or property after a certain period of nonpayment and in accordance with their policies and federal and state guidelines. Often part of bankruptcy proceedings is foreclosure, which is the legal process the creditor uses to secure the outstanding debt by forcing the sale of the asset—typically, real estate. Creditors prefer to exercise this right before the debtor files for bankruptcy because they must stop the repossession process once the debtor has filed.

Creditors also have the right to seize money through a garnishment process, in which the court directs a third party to seize the debtor's money or property for payment of debts. Garnishment typically happens with wages. Creditors must follow the intricate details of bankruptcy laws. Doing so keeps them from violating the debtor's rights, which ultimately will save creditors the expense of litigation, damages, or both. Usually creditors have either in-house counsel (attorneys employed full time) or attorneys on retainer (attorneys paid on a regular basis to be available) to ensure creditors have followed the required agreement.