Bankruptcy
Legal Issues and Implications
For Commercial Real Estate ©
By Lackman Commercial Group, PLLC

Definition
“A debtor who, upon voluntary petition
or one invoked by his creditors, is
judged legally insolvent and whose
remaining property is administered
for his creditors or distributed among
them.”
Insolvent
“Unable to meet debts or discharge liabilities”

Common Forms
of Bankruptcy
Chapter 7 – A liquidation proceeding
Chapter 11 – A reorganization
proceeding in which the debtor may
continue in business or in possession
of its property as a fiduciary

Bankruptcy Code
Title 11 of the United States Code
governs bankruptcy proceedings
The same in every state
with the exception of exemptions

State Exemptions:
Texas
Real Property: Real property, unlimited value, up to one acre in town or
city and 200 acres elsewhere (100 acre limit if unmarried)
Personal Property:
Jewelry up to 25% of total exemption
60 livestock
Motor vehicle
Pets
120 poultry
Tools
Life insurance cash value
Unpaid commissions up to $30,000 or up to $60,000 for head of family
Athletic and sporting equipment
Boat
Books
Bicycles
Cattle (12), equipment, clothing, farming or ranching equipment, two
firearms, food, heirlooms, home furnishings, two horses or donkeys and
saddle, blanket and bridle for both, professionally prescribed health aids

Chapter 11
Voluntary
Involuntary (by creditors meeting
certain requirements)
Available to:
Corporations
Sole proprietorships
Partnerships
LLC’s
Individuals

Parties Involved
Debtor
Creditors
Secured
Unsecured
Bankruptcy Court Judge
United States Trustee
Trustee or Receiver

Chapter 11 Basics
An attempt to stay in business while
reorganizing contractual and debt
obligations
Usually a debtor-in-possession case
Court can grant complete or partial relief
from most of the company’s debts &
contracts
If debts exceed assets, at completion
owners end up with nothing and creditors
are the new owners

Chapter 11
Rationale
Value of a business may be greater if sold
or reorganized as a going concern than the
value of its individual assets
May make better economic sense to allow a
company to keep running, cancel some if
its debts, and give ownership to creditors
Jobs may be saved, creditors may end up
with more than they would in liquidation

Automatic Stay
Upon filing, creditors must cease all
collection efforts
Debtors have exclusive period to file
a plan of reorganization – 120 days,
and another 60 days to obtain
approval
Secured creditors may be granted
“relief from stay” under certain
circumstances

Real Estate
Bankruptcies
Commercial loans are usually, but not
always, non-recourse
If recourse, guarantees are
enforceable
Most properties are owned by LLC’s
Usually single asset bankruptcy
Current economic environment has
made bankruptcy a practical and
acceptable business choice for owners

Typical Secured
Lender Actions
Negotiate or foreclose
Concern re management & leasing ability
Property allowed to deteriorate
Significant change in the market or borrower’s
financial condition
If nonrecourse, property and rents are the
only sources of repayment
Immediately seek a receiver to protect
lender’s collateral
Request “relief from stay”

Relief from Stay
Lender may request release from bankruptcy aka
“relief from stay” if:
The debtor cannot prove or provide the lender
“adequate protection”, or
The lender can successfully argue that there
are other reasons for granting relief, e.g. the
property is at risk and/or depreciating
The lender successfully argues that the value
of the collateral is less than the amount of
debt, therefore the property is not necessary to
protect the unsecured creditors

Reform Act of 1994
Considered a victory for secured
creditors in real estate bankruptcies
Defined single asset real estate
bankruptcies as encompassing only
business operations having less than
$4 million in secured debt
But little impact due to $4 million
limit

“Single Asset” Real Estate
Bankruptcies
Court must lift automatic stay unless
debtor:
Proposes a plan of reorganization that
has a reasonable chance of confirmation
within 90 days after a filing for relief
from stay, or
Commences monthly interest payments
in an amount equal to fair market
interest rate based on the value of
lender’s interest at fair market value

Executory Contracts
May be “rejected” if financially favorable to
debtor
May include
Labor contracts
Supply contracts
Real estate leases
Each party to the contract has duties
remaining under the contract; In the event
of rejection, the remaining parties become
unsecured creditors of the debtor
Thus, tenants may walk from leases if only
to improve their financial condition

Rights of Lessees
If debtor-lessor rejects a lease with tenant:
Lessee has option of vacating or remaining in
possession
For the balance of the term and for any
extension term
Right to retain, preserve and protect all rights
under the lease including the amount and timing
of rent payments
This often protects lenders from being
stripped of their collateral

Cash Collateral
Lender’s almost always secured by the
property and an assignment of rents
Thus “post-petition” rental income is part of
a lender’s collateral and is subject to
preservation for the protection of the
creditor
Lender may allow release of rents to pay
basic expenses such as utilities & property
taxes
Lender will refuse release of rents for any
other purpose

Preferential &
Fraudulent Transfers
Debtors may prefer one creditor over
another for essential services
Debtors may reduce a debt that is
personally guaranteed
Trustee can set aside any such
transfer made with past 90 days
If benefits an insider, may set aside
any transfer made with one year

Valuation Issues
Lender’s debt is divided into a secured
claim to the extent of the value of the
collateral and an unsecured claim for the
remainder
There are several reasons a court may have
for valuing the lender’s security:
If lender is over-collateralized, it cannot be
granted relief absent special circumstances
No relief if debtor’s plan does not modify original
terms
Debtor may argue new leases or other changes
offer adequate protection

Emerging from
Bankruptcy
Requires court confirmation of plan
approved by creditor’s committee
All “impaired debt” is modified
Some creditors may be “unimpaired” if paid
in full due to priority standing
If plan is not confirmed, judge may:
Convert the case to a Chapter 7
Dismiss the case
Give debtor time to submit a revised plan

Selling “Net Leased”
Properties
Would an investor buy a property leased
last year for 20 years by:
Coca Cola ?
WalMart ?
Lehman Brothers ?

Biggest
Bankruptcies
1. Lehman Brothers Holdings, Inc.
9-15-2008 $639 Billion
2. Washington Mutual
9-26-08 $327 Billion
3. Worldcom Inc.
7-21-2002 $103 Billion
4. Enron Corp.
2-12-2001 $63 Billion

BUSINESS
BANKRUPTCY FILINGS
1980 43,694 1990 64,853 2000 35,472
1981 48,125 1991 71,549 2001 40,099
1982 69,300 1992 70,643 2002 38,540
1983 62,436 1993 62,304 2003 35,037
1984 64,004 1994 52,374 2004 34,317
1985 71,277 1995 51,959 2005 39,201
1986 81,235 1996 53,549 2006 19,695
1987 82,446 1997 54,027 2007 28,322
1988 63,853 1998 44,367
1989 63,235 1999 37,884