Most people file an individual Chapter 11 bankruptcy case with the hope that the court will approve a more manageable payment plan. The process of creating a plan begins when you negotiate new agreements with your creditors. Unfortunately, it doesn’t always go smoothly—especially when you’re asking to pay less than what you owe. When your plan “impairs” a creditor in this manner (pays the creditor less than what it would receive under the original agreement) the creditor gets to vote on whether the plan should be adopted. Even if the impaired creditor votes against the plan, however, you still might convince the court to confirm (approve) it if you can show that you’ve made a reasonable offer. In this article, you’ll learn about the process of confirming a reorganization plan of over the objection of an impaired creditor.
(Learn more about creating your repayment plan by reading What Goes Into an Individual Chapter 11 Plan and Disclosure Statement?)
In your Chapter 11 plan of reorganization, you must label each of your creditors as “impaired” or “unimpaired.” A creditor’s claim is impaired if you change the original debt terms in a negative way, such as reducing the interest rate or lengthening the pay-out period.
Unimpaired creditor claims, on the other hand, aren’t altered by the plan. Each receives what it would have received had you not filed for bankruptcy. This distinction is important because impaired creditors have the right to vote on your plan. Unimpaired creditors do not.
Your Chapter 11 plan must group similar types of debts into distinct classes. Next, you propose a payment plan for each class, called a “treatment.” Some classes will contain multiple creditors while others will contain just one. If your proposed class treatment is something less than full payment, the class is impaired.
Example. Jane owns a home and a small restaurant on the seashore. Jane’s out-of-season business has been unusually bad for the last couple of years. As a result, she’s behind on her house payment and her restaurant supplier invoices. Jane decides to file a Chapter 11 bankruptcy so that she can manage her bills until business improves. Jane and her lawyer create a plan that classifies and treats her major creditors like this:
Class 1 – $10,000 in past-due income taxes. Treatment – paid in full upon plan confirmation.
Class 2 – $300,000 home mortgage, with five payments past due. Treatment – past-due amount paid over three years at 5% interest. Future payments paid as agreed.
Class 3 – $6,000 claim of restaurant landlord for three months’ past due rent. Treatment – resume making current monthly payments and pay the past due rent in one lump sum at the end of twelve months when business has improved.
Class 4 - $10,000 in claims of restaurant suppliers. Treatment – pay 100% of claims over two years in monthly payments with 8% interest.
In this example, Class 1 is unimpaired. Classes 2, 3 and 4 are impaired so they’ll vote on the plan.
Once you finalize a plan, you’ll file it with the court and send it out to creditors along with a voting ballot. When the creditors return ballots, you’ll count the votes and group them together by class.
Under Chapter 11 rules, if at least one-half of the number of creditors and two-thirds of the dollar amount of claims in an impaired class vote yes, then the class has accepted the plan—even if all of the other class creditors vote no.
So, in the above example, if Class 4 contains ten suppliers with $10,000 in total claims, at least five of the suppliers holding at least $6,667 in total claims must vote yes for the class to accept the plan.
Just because a class rejects a claim doesn’t mean that the plan won’t be confirmed. If you can show that your proposed treatment of the rejecting class is fair, as defined by Chapter 11 rules, you can “cramdown” the plan. The cramdown rules are complicated, but generally, you must prove to the bankruptcy judge that the dollar value of the proposed future payments is worth at least as much as the current amount of the debt.
Chapter 11 plans can vary widely and are unique to the particular situation. Although your plan won’t look like Jane’s, the basic principles remain the same. You should consult with a lawyer about the best way to classify and treat impaired claims in your particular situation.
(To find out how to maximize your consultation time, read Bankruptcy: Preparing to Meet with a Lawyer.)
