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New Bankruptcy Law Impacts on Businesses Too

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April 30, 2005 | South Jersey Magazine
Richard Dressel

President George W. Bush signed into law the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (the "Bankruptcy Act" or the "Act") on April 20, 2005.

The Bankruptcy Act has received the most attention for its provisions, which will make it more difficult for individuals to avoid repaying their debts. However, the Bankruptcy Act also presents new challenges for businesses seeking to reorganize their financial affairs.

Some highlights of the Bankruptcy Act insofar as it pertains to businesses are as follows:

* Shortened Reorganization Process. Small businesses (defined under the Bankruptcy Code as essentially being businesses with less than $2,000,000 in debt) will have the exclusive right to file a plan of reorganization for six months after the petition date. At the expiration of the exclusivity period, the debtor's creditors may file a reorganization plan for the debtor. If no plan is filed within 300 days after the petition date, the case may be dismissed or converted to a Chapter 7 liquidation proceeding. Larger debtors will have 18 months to file a plan of reorganization; however, the Bankruptcy Act limits the Bankruptcy Court's ability to grant continuous extensions of the exclusivity period, during which only the debtor can file a plan of reorganization.

* Enhanced Protections Afforded Utilities. Utilities' entitlement to "adequate assurance" of payment for post-petition utility services is now defined under the Bankruptcy Act in economic terms, including a cash deposit, security bond, letter of credit, certificate of deposit, prepayment of utility compensation or a mutually agreed upon form of security between the utility and the debtor. Adequate assurance must be provided within 30 days of the petition date in order to prevent the discontinuance of service. As such, debtors can no longer rely upon the facts and circumstances of the bankruptcy case, such as prior payment history or granting administrative claim status, to satisfy the "adequate assurance" required for the continuation of utility services post-petition. Rather, debtors now must budget for the continuation of utility services post-petition.

* Expanded Review of Compensation of Debtors' Officers and Directors. The Bankruptcy Act revamps the common practice of leaving compensation of management to the "sound business judgment of the debtor" and imposes strict Bankruptcy Court review and dollar limits on the amounts paid to corporate management and insiders. The Bankruptcy Act also specifically limits severance payments and success fees to insiders.

* Enhanced Protections for Debtors' Employees. While imposing new scrutiny and limits on compensation to management and insiders, the Bankruptcy Act affords additional protection for rank and file employees owed compensation for services rendered, but unpaid, prior to the petition date. Specifically, the Bankruptcy Act increases the priority claims for rank and file employees owed up to $10,000 for services rendered during the six months prior to the petition date per employee.

* New Deadlines for Assuming or Rejecting Commercial Real Estate Leases. The Bankruptcy Act now allows a debtor 120 days (as opposed to 60 days) within which to decide whether to assume or reject a commercial real estate lease. However, the Act limits the extension of this deadline to an additional 90 days, thereby putting an end to the granting of numerous, open-ended extensions typically granted to debtors to make a decision to assume or reject their commercial real estate leases.

* Allowance of Administrative Claim Status for Goods Provided Pre-Petition. The Bankruptcy Act expands administrative claim status to include not only claims for goods and services supplied to a debtor post-petition, but also for goods received by a debtor within the 20 days prior to the petition date, when the goods were sold to the debtor in the ordinary course of the debtor's business. Because of the newly-imposed administrative claims status, debtors will find it more difficult to "stock up" on goods before the petition date, as to do so may render the new corporate debtor administratively insolvent as soon as soon as it files for bankruptcy protection.

* Conversion and Dismissal. The Bankruptcy Act substantially expands the grounds for the dismissal or conversion of a Chapter 11 reorganization proceeding to a Chapter 7 liquidation proceeding and places a higher burden on debtors to defeat a motion for conversion or dismissal by establishing that the requested relief is "not in the best interest(s) of creditors and the estate."

* Preference Actions. The Bankruptcy Act includes several provisions of note with respect to preference actions:

The Act disallows preference actions with respect to settlement payments and transfers made pursuant to swap agreements and certain other financial payments.

In cases where debts are not primarily consumer debt, the Act prohibits preference actions where the aggregate of all payments and/or transfers is less than $5,000.

The Act generally requires that preference actions seeking less than $10,000 be brought in the district court where the creditor/defendant resides.

The Act redefines the "ordinary course of business" defense to preference actions to require a showing that the transfer was in payment of a debt incurred in the ordinary course of business or financial affairs of the debtor and the creditor and the transfer was made either in the ordinary course of business or financial affairs of debtor and transferee or made according to ordinary business terms. Thus, the Act eliminates the need for creditors to demonstrate that payments were received within the "ordinary course of dealings in the industry" in order to defend preference actions.

* Expanded Reclamation Rights Granted to Creditors. Under the Bankruptcy Act sellers following the required notification procedures will be entitled to reclaim goods sold on credit for the 45 day period prior to the petition date subject, as always, to the security interest of senior lenders. In addition, the Bankruptcy Act allows administrative claims status for a reclaiming creditor to the extent of goods delivered to the debtor within 20 days prior to the petition date, so long as the goods were sold in the ordinary course of the debtor's business.

Although the Bankruptcy Act has received the most attention for the impact it will have upon individuals, it will also have a substantial impact upon corporate debtors attempting to reorganize their financial affairs.

This report is for general use and information. The content should not be interpreted as rendering legal advice on any specific matter.

AUTHOR: E. Richard Dressel, Esq. is a shareholder at Flaster/Greenberg PC in Cherry Hill who concentrates his practice in bankruptcy and debtor/creditor rights. He can be reached at (856) 661.2280 or rick.dressel@flastergreenberg.com.  

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