Real Estate Bankruptcy

Real Estate Bankruptcy

Although real estate bankruptcy cases no longer dominate the bankruptcy
courts' dockets as they did in the early nineties, but they continue to be filed
with great frequency in UK. At its essence, the real estate bankruptcy is a two
party dispute between mortgagee and mortgagor. Real estate bankruptcy cases are
typically filed after a foreclosure sale has been set. Upon learning of the
bankruptcy filing, a secured creditor has a number of available options, all or
some of which should be exercised, depending on the facts of the case, to
maximize loan recovery.

A lender can ask the court to dismiss the bankruptcy case as a "bad faith"
filing. A creditor asserting bad faith must prove the subjective bad faith of
the debtor and that any reorganization by the debtor is objectively futile. For
subjective bad faith, the court will examine whether the debtor invoked the
protections of the Bankruptcy Code without either the intention or ability to
reorganize its financial affairs. To determine objective futility, the court
will examine whether there is indeed a "going concern" to preserve and whether
there is any realistic chance for the debtor to reorganize. Most courts require
a very strong showing to dismiss a case for bad faith at the outset of a case.

Under the Bankruptcy Code a motion for relief from stay will also be
granted where the secured creditor can prove that there is no equity in the real
property over and above the secured claims, and that the property is not
necessary to the debtor's effective reorganization. This basis for relief is
typically alleged as an alternative to bad faith, in the same motion. Almost all
controversies surround the value of the real property, making the expert report
and testimony of a licensed real estate appraiser essential to the successful
prosecution of a motion for relief from the automatic stay on these grounds. The
same factors relied upon to support objective futility in the bad faith filing
analysis are used to establish that the property is not necessary to an
effective reorganization.

An alternate ground for relief from the automatic stay is lack of adequate
protection of the secured creditor's interest in the property. For example, if
the real property is deteriorating in value and the lender is not receiving
post-petition payments, the lender's security interest in the property is not
adequately protected. A creditor holding a properly perfected assignment of
rents has a lien on "cash collateral" under the Bankruptcy Code. If the
assignment of rents was properly perfected pre-petition, it usually attaches to
the post-petition rents generated by the debtor's real property. A debtor may
not use cash collateral without either a court order or the consent of the
secured creditor. While it is common in nonsingle asset realty cases for a
debtor to negotiate a cash collateral agreement with the secured creditor before
filing for bankruptcy, in single asset real estate cases, which are typically
filed at the eleventh hour for the express purpose of stopping a foreclosure,
such negotiations are virtually nonexistent.

Unless, within the first day or two of the case, the debtor requests a
cash collateral agreement with the lender, or files a motion with the court to
authorize the debtor's use of post-petition rents, a lender should immediately
advise the debtor in writing that it may not use cash collateral absent an
agreement. If an agreement is not reached, the debtor will usually petition the
court for authorization on an emergency basis. The lender can also petition the
court to deny authorization on the basis that the debtor lacks the ability to
adequately protect its interests in the rents. In the final analysis, most
secured creditors share the same objective when faced with a real estate case:
to extract their collateral, including rents, from the bankruptcy as quickly and
inexpensively as possible.