While the bankruptcy court does not supervise Chapter 13 debtors closely, they must obtain court approval to transfer property, settle claims, incur debt, or hire lawyers or other professionals.
As we mentioned in passing in our last post, one disadvantage of Chapter 13 is that the debtor remains involved with the bankruptcy process for several years. For the most part, debtors choosing this approach are in control of their own finances while their bankruptcy cases remain pending. But the bankruptcy court controls four special kinds of transaction where the debtor may not act without permission.
Transferring property. Filing bankruptcy brings all the debtor’s property within an estate. A Chapter 13 debtor remains in possession and control of estate property, but if the debtor later converts to Chapter 7, that control passes to a trustee who acts on behalf of all the creditors. For this reason, creditors have a say about what happens to the debtor’s property. A debtor may not sell or give away anything he owns without notifying creditors and getting the court’s OK.
This restriction is both broader and narrower than it may appear. In bankruptcy lingo, “property” meansanythinga person owns — not just real estate and tangible possessions but also intangible items and property rights such as stock, certificates of deposit, rights to inherit, and rights to sue. Likewise, a transfer means any act by which another person gains property-type rights, including the creation of a lien. So, for example, a debtor may not pledge his car to secure a debt of his own (see also below on incurring debt) or of anyone else’s.
On the other hand, this rule does not restrict a debtor from selling inventory in the ordinary course of business. A debtor who owns a hardware store can keep selling nails and leaf blowers, as long as he doesn’t liquidate a big chunk of inventory at one time.
Settling claims against others. In bankruptcy law, legal claims of the debtor are considered a form of property. This could include claims for personal injury, workers compensation, breach of contract, or any of a number of other rights to recover money. In Chapter 13, this includes claims that arise both before and after the bankruptcy case is filed.
Settling a claim is in essence a sale of the claim for a certain sum of money. So, like the transfer of any other kind of property, it requires the court’s permission.
Incurring debt. Anyone in Chapter 13 must also get approval to borrow money or buy anything on credit, whether or not collateral is pledged. This includes refinancing a mortgage or other debt. In the District of South Carolina, it also includes obtaining a mortgage loan modification, although there is a simplified process for approval of loan modifications.
Employing a lawyer or other professional. This restriction usually applies to retaining a lawyer for a personal injury, workers compensation, or social security claim. In principle it could apply to an accountant, appraiser, or broker, but these situations are rare in practice. It does not apply to the lawyer who represents the debtor in the bankruptcy or (at least in this district) to a lawyer hired before bankruptcy to represent the debtor on a claim.
A few months ago, a Chapter 13 client from Aiken was injured in an automobile accident that was the fault of the other driver. Processing this claim required two separate requests to the court — one for approval of the lawyer she hired and another, later request for approval of her injury settlement.
The fact that court approval of these transactions is required does not mean the debtor can’t borrow money, sell property, refinance a mortgage, etc. In fact, court approval of these transactions is often quite routine. But it can take a little time. So if any of these situations arises while you’re in bankruptcy, make sure to check with your bankruptcy lawyer as early as possible so that the approval process can be completed in time to close the deal.