An introduction to the fundamentals of dynamic business law and business ethics chap018

Chapter 18 Internet Research ExerciseGo to http://www.thebankruptcysite.org/bankruptcy-exemptions and research the Chapter 7 bankruptcy exemptions allowed in your particular state “Exem

Chapter 18

Secured Transactions and

Bankruptcy

Chapter 18 Case Hypothetical

On September 7, 2010, Albert O’Leary extended a $10,000 loan to his

friend Corey Johnson As security for the loan, Corey gave a

document to Albert with the following language:

“I, Corey Johnson, hereby give a security interest in my 2009 Chevrolet Camaro to Albert O’Leary in return for his $10,000 loan to me on

September 7, 2010 Signed, Corey Johnson.”

Does Albert O’Leary have a perfected security interest in Corey

Johnson’s 2009 Chevrolet Camaro?

Chapter 18 Case Hypothetical

Jerry Eller purchases a laptop computer for $995 from the local Preferable

Purchase electronics store He charges the $995 amount on Preferable

Purchase “instant credit,” and the store has guaranteed him no finance charges

if he pays the $995 amount within one year from the date of purchase.

Jerry purchased the computer for use in his business, Eller’s Civil War

Battlefield Tours, Inc On any given week, Eller uses the laptop approximately

20 hours for the purposes of Eller’s Civil War Battlefield Tours, Inc., and 10

hours to play the online video game “Gloom” (his favorite hobby.) One year

passes, and Jerry does not pay any of the credit balance After repeated

attempts by Preferable Purchase’s Credit Department to collect on the debt,

Jerry still refuses to pay.

Does Preferable Purchase have a perfected security interest in the laptop

Chapter 18 Internet Research Exercise

Go to http://www.thebankruptcysite.org/bankruptcy-exemptions and research the Chapter 7

bankruptcy exemptions allowed in your particular state (“Exemptions” represent property the debtor is allowed to keep, even though he/she is filing for Chapter 7 liquidation bankruptcy.) Based on your

research, are your state’s Chapter 7 exemptions more or less generous than the federal bankruptcy

exemptions outlined in Exhibit 32-4 of the textbook?

Although bankruptcy is primarily a matter of federal jurisdiction (delegated to the federal government

in Article I, Section 8 of the United States constitution), the federal government does allow the

individual states to craft their own Chapter 7 exemptions for individuals filing in their particular state

If the state chooses to enact its own Chapter 7 exemptions, the state can then require those filing in

its jurisdiction to use the state exemptions, or it can allow the bankrupt debtor to choose the federal

exemptions outlined in Exhibit 32-4 of the textbook If the state chooses not to enact its own Chapter

7 exemptions, the federal exemptions apply by default.

In your reasoned opinion, should Chapter 7 bankruptcy exemptions be uniformly applied in all states

(by applying the federal bankruptcy exemptions in every state), or do you favor the idea of allowing

the individual states to craft their own Chapter 7 exemptions?

Chapter 18 Ethical Dilemma

Effective October 2005, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) represents the most sweeping change to the United States Bankruptcy Code in almost forty years Applauded by the credit card

industry, which had lobbied the United States Congress for several years before its enactment, the BAPCPA makes it

extremely difficult, if not impossible, for middle income Americans to file for Chapter 7 (“liquidation”) bankruptcy

(Traditionally, the United States Bankruptcy Court used Chapter 7 for debtor rehabilitation, allowing the debtor to

discharge pre-existing debts in return for his/her relinquishment of non-exempt property, and the non-exempt property was used to partially satisfy creditor claims.) Instead, the BAPCPA channels bankrupt debtors into Chapter 13

(“reorganization”) bankruptcy, with strict restrictions against debt forgiveness.

The BAPCPA has come under criticism, in part because it allows no exceptions for unanticipated medical expenses (a Harvard University study concluded that more than fifty percent of bankruptcies are attributable to unpaid medical

bills,) loss of employment, or financial difficulties resulting from dissolution of marriage BAPCPA critics argue that

individuals so affected should be allowed to file Chapter 7 (“liquidation”) bankruptcy protection Critics further contend that without such a change in the BAPCPA, the only real discharge for many debtors will be death.

From a legal standpoint, should the United States Congress rewrite the BAPCA and create exceptions for

unanticipated medical expenses, loss of employment, or financial difficulties resulting from dissolution of marriage (and allow the bankrupt debtor to file for Chapter 7 bankruptcy protection?) From an ethical standpoint, should not our

society “give these people a break?” Are not such people, and their financial situations, substantially different from

consumers who “max out” their credit cards on “mad shopping sprees?”

(For reference, see http://www.cch.com/bankruptcy/Bankruptcy_04-21.pdf )

Secured Transactions: Definitions

• Secured Interest: Interest in personal

property/fixtures which secures

• Security Agreement: Agreement in which debtor

gives secured interest to secured party

• Collateral: Property that is subject to security

Collateral Under UCC

• Goods (Consumer goods, farm products,

inventory, equipment, fixtures, and accessories)

• Indispensable Paper (Documents of title,

negotiable instruments, investment property,

and chattel paper)

• Intangibles (Accounts, goodwill, literary rights)

• Proceeds

Creation (Attachment) of Security

Interest

Requires:

• Written Agreement: Agreement that describes

collateral and is signed by debtor

• Value: Item of value given from creditor to

debtor

• Debtor Rights in Collateral: Rights of debtor

over collateral

“Purchase-Money” Security

Interest

Definition: Interest formed when

debtor uses borrowed money (e.g.,

buying on credit) from secured party to

buy collateral

“Perfected” Security Interest

Definition: Security interest in which

creditor has legally protected his/her

claim to collateral

Methods of Perfection

• Perfection By Filing: Perfection of interest by

filing financing statement with state agency

-Place and Duration of Filing: Generally,

financial statement for consumer goods must

be filed with county clerk; statement valid for

five (5) years

• Perfection By Possession: Perfection of

interest by holding collateral of debtor until loan

is paid in full

Methods of Perfection

(Continued)

• Automatic Perfection: Perfection that

automatically occurs when retailer sells a

consumer good

• Perfection of Movable Collateral: Collateral

that moves to another state must be

“re-perfected” after four (4) months

Perfection of Security Interests in

Automobiles and Boats:

Note interest on certificate of title

Scope of Security Interest

• After-Acquired Property: Creditor has

security interest in property acquired by

debtor after security agreement made, if

clause to this effect included in agreement

• Proceeds: Creditor automatically has rights

to proceeds from sale of collateral for ten

(10) days

Termination Statement

Definition: An amendment to a

financing statement stating debtor has

no further obligation to secured party

Priority Disputes

• Occur when two corporations/individuals claim rights

to same collateral:

• Secured Versus Unsecured: Secured interest prevails

• Secured Versus Secured: Individual who perfected

his/her interest first prevails

• “Purchase Money Security Interest” (PMSI) Conflicts:

If party with perfected purchase money security

interest disputes another party, PMSI party will almost

always have right to collateral, regardless of when

agreement perfected

Priority Disputes (Continued)

Secured Party Versus Buyer: If debtor sells his

collateral, creditor may dispute with buyer over

collateral

• Buyer in “Ordinary Course of Business”: If

person buys collateral in ordinary course of

business without realizing that it is collateral, he/

she has right to good

• Buyers of Consumer Goods: If consumer does

not know product secured, buyer’s new product

is free from security interest

• Buyers of Chattel Paper and Instruments: If

Occurs when debtor fails to fulfill his/her loan;

remedies include:

• Taking possession of collateral: If debtor defaults

on loan, secured party can take possession of

collateral

-Disposition of Collateral: Creditor may sell,

lease, or transfer collateral

-Retention of Collateral: Creditor may choose to

keep collateral as payment of debt

• Proceeding to Judgment: Secured party may sue

Bankruptcy and Reorganization

The Purpose of The Bankruptcy Act

And Its Goals

• Provide protection to creditors

• Provide opportunities for debtors to

gain a “fresh financial start”

Bankruptcy Law Is A Matter Of

Federal Jurisdiction

United States Constitution Article I, Section 8:

“Congress shall have the power…To

establish…uniform laws on the subject of

bankruptcies throughout the United States”

The Bankruptcy Abuse Prevention and

Consumer Protection Act of 2005

(BAPCPA)

• Most comprehensive change to bankruptcy

law in over 25 years

• BAPCPA Effect: More difficult for individual

debtor to qualify for Chapter 7 (Liquidation)

bankruptcy

Types of Bankruptcy Relief

• Chapter 7 Bankruptcy: Sale of debtor’s non-exempt

assets by trustee, and distribution of money to creditors

• Chapter 9: Adjustment of municipalities’ debts

• Chapter 11 Bankruptcy: Reorganization of debtor’s

financial affairs under supervision of bankruptcy court

• Chapter 12 Bankruptcy: Reorganization of family

farmers’ debts

• Chapter 13 Bankruptcy: Reorganization of individual’s

debts

Bankruptcy Proceedings

• Each bankruptcy case begins with filing of

bankruptcy petition

• Once petition filed, bankruptcy court grants

automatic stay “freezing” creditor actions

against debtor’s estate (i.e., creditors’ legal

actions against debtor outside of

bankruptcy court must cease)

Chapter 7 Bankruptcy: “Voluntary”

Versus “Involuntary” Petition

• Voluntary Petition: Debtor files

• Involuntary Petition: Creditor(s) file,

forcing debtor into bankruptcy

Chapter 7 Bankruptcy Terminology

• Automatic Stay: Moratorium on creditor litigation against

debtor outside bankruptcy case

• Order of Relief: Court order allowing bankruptcy

proceedings to continue

• Creditors’ Meeting: Meeting of all creditors listed in

Chapter 7 schedules for liquidation

• Trustee: Party responsible for collecting debtor’s

non-exempt, pre-filing assets, and liquidating property to cash

that will be distributed among creditors

• Exempt Property: Property debtor allowed to retain

Federal Bankruptcy Exemptions

• Up to $15,000 for residence (“homestead”

exemption)

• Interest in motor vehicle up to $2,400

• Interest, up to $400 for particular item, in

personal and household goods (aggregate total

limited to $8,000)

• Interest in jewelry up to $1,000

Federal Bankruptcy Exemptions (Continued)

• Up to $1,500 in “tools of trade” and professional

books

• Any unmatured life insurance contract owned by

debtor

• Professionally prescribed health aids

• Interest in any other property up to $800, plus any

unused part of homestead exemption up to $7,500

• Right to receive certain personal injury awards up to

$15,000

Voidable Transfers

• Preferential Payments: Trustee can recover

(and include in bankruptcy estate) payments

made by insolvent debtor that give preferential

treatment to one creditor over another, if debtor

made such payments within 90 days of

bankruptcy filing

• Fraudulent Transfers: Trustee can recover

(and include in bankruptcy estate) transfers

made with intent to defraud creditors, if debtor

made such transfers within two years of

bankruptcy filing

Classes of Priority Claims Among

Unsecured Creditors

• Class 1: Alimony/child support

• Class 2: Court costs, trustee fees, attorney, fees, other costs

associated with administration of bankruptcy estate

• Class 3: Unsecured claims in involuntary bankruptcy that arise

through debtor’s ordinary business expenses, from date of filing

petition to date of trustee appointment

• Class 4: Unsecured claims for unpaid wages, salaries, and

commissions (up to $10,000 per individual) earned within 180 days

of filing of petition

• Class 5: Unsecured claims for contributions to employee retirement

Classes of Priority Claims Among

Unsecured Creditors (Continued)

• Class 6: Unsecured claims by farmers and fishers (up to

$4,000) against grain operators of grain storage facilities/fish storage/processing facilities

• Class 7: Claims for deposits given to debtor in connection

with property/services never given

• Class 8: Certain taxes and penalties due government

• Class 9: Claims in bankruptcies related to federal depository institutions

• Class 10: Unsecured claims for personal injuries and deaths

Non-Dischargeable Debts Under The

Bankruptcy Code

• Claims for back taxes/government fines within 3 years

of bankruptcy filing

• Claims for liabilities against debtor for his/her obtaining

money/property under false pretenses, false

representation, or fraud

• Claims by creditors not listed on schedule and who did

not have notification of bankruptcy proceedings

• Claims based on fraud, embezzlement, and larceny by

debtor while he/she acting in fiduciary capacity

• Alimony, child support, and certain property

Non-Dischargeable Debts Under The

Bankruptcy Code (Continued)

• Claims of willful/malicious conduct by debtor that

caused injury to another person/property

• Specific student loans, unless payment of loans would

impose “undue hardship” on debtor

• Judgments against debtor for claims resulting from

debtor’s driving under the influence

• Debts not discharged in previous bankruptcies

• Claims for money borrowed to pay tax to federal

government that would be non-dischargeable