Debtor Creditor Rights

Debtor Creditor Rights

Legal Rights of Debtors

  • Federal and state laws protect debtors.

  • Creditors cannot engage in harassment or threatening behavior.

  • There's a balancing act between the rights of the creditor and the protection of the debtor.

Lawsuit

  • Filing a lawsuit against the debtor is a common approach.

  • The plaintiff (creditor) incurs costs like court costs and attorney fees.

  • The creditor must win the lawsuit to proceed with collection efforts.

Attachment

  • Attachment: Seizing the debtor's assets.

  • A writ is requested from the court to create an attachment.

  • The judge needs to allow to attach property and it need to make sense.

  • Attachment connects debt with debtor's assets.

Wage Garnishment

  • Garnishment involves going after the debtor's wages or salary.

  • It's a form of attachment to a revenue stream.

  • Traditionally linked to income and employment.

  • There are percentage limits on what can be garnished.

  • Garnishment is formalized via a court order.

  • A garnishment order is served on the employer, who must comply.

Liens

  • Lien: A statutorily supported right giving the creditor super priority.

  • Labor lien and material lien are the primary focus.

  • Liens are extremely powerful and can rank higher than other creditors if statutory processes are followed.

  • Example: A contractor who provides labor and materials can have a lien that prevails over a first mortgage.

  • For exam purposes, always prioritize the lienholder.

Mortgage Agreement

  • Mortgage: Connects debt with real estate.

  • The debt is secured by the mortgage.

  • Mortgagor: The party granting the mortgage (debtor).

  • Mortgagee: The creditor, typically a bank.

  • Technically, payments are made on the house note, which is secured by the mortgage.

  • A mortgage is an attachment document, linking debt and assets.

UCC Nine

  • UCC Nine: A security device that anchors debt with movable property (tangible or intangible).

  • All 50 states use the UCC Nine.

  • Focus is on inventory and equipment.

  • The debt is evidenced by a negotiable instrument and coupled with a UCC Nine security device.

  • Example: A forklift can be either inventory or equipment, depending on the business.

  • Security agreements can be broad, covering any and all inventory or equipment owned now or after-acquired, and proceeds from their sale.

Surety and Guarantor

  • Surety: Primarily liable and can be verbal or written.

  • Guarantor: Secondarily liable and must be in writing.

  • Guarantor is a secondary promise, requiring the original debtor to be part of any litigation.

  • It's more advantageous to be a guarantor than a surety.

Methods of Collection

  • Reactionary methods: Lawsuits, attachments, garnishments, liens.

  • Preventive methods: Mortgages, UCC Nine filings, sureties, guarantees.

  • Liens are generally the most powerful of the reactionary methods.

  • Aim for preventive measures to secure first position as a creditor.

Traditional Methods vs. Bankruptcy

  • Objective: Make sure creditors get paid.

  • Liens can catapult creditors to the first place - Superpower.

  • Liens are defined by state law.

  • The IRS can place federal liens on property and bank accounts.

  • Object in bankruptcy is to be in front of other creditors.

  • Bankruptcy favors the party with the highest ranking.

Hierarchy in Bankruptcy

  • Hierarchy matters in bankruptcy distributions.

  • Liens are prevalent in this world.

  • Bankruptcy has a well-defined hierarchy.

Secured Transactions

  • It is mathematical and precise.

  • A security agreement is a written agreement signed by the debtor that attaches debt to their assets.

  • The security agreement doesn't need to be hyper-sophisticated to be valid.

  • Exception: If the creditor possesses the asset (pawn or pledge), the agreement can be verbal.

  • Debtor normally keeps possession of the asset for commercial means.

Managing Multiple Security Agreements

  • States have centralized databases to file security interests.

  • It's the first to file that has priority.

  • Secured debtor + filing = secured and perfected creditor.

Scenarios

  • Creditors may close documents and file a financing statement but not fund the loan for a few days, leaving you at risk.

  • You can leverage accounts receivable through UCC Nine.

Practice exercise

  • Bank A files a financing statement in all inventory.

  • Bank B gets a security agreement in all inventory, files a financing statement in all inventory, and makes a loan.

  • Bank A comes back and makes the loan, and then bank a gets a written security agreement.

  • What is the status of a and b? Are they secured and perfected, secured and unperfected, unsecured and unperfected, or in it?

  • Who wins?

  • A mortgagee would still be an unsecured creditor in coin inventory.

Exam Strategy

  • List out the creditors in the order they appear sequentially in the timeline.

  • Put their status relative to the asset in question.

  • Rank order the creditors.

  • Identify all creditors on the page no matter what they did, no matter what they lend money into.

Case Study

  • The creditor that filed first gets paid.

  • This file will last for five years.

The Filing System

  • Filing does not attachment make.

  • The security agreement is an in-depth document.

  • The financing statement does not a security agreement make -- it's one little page sheet of paper that puts out telephone notice we might have a security interest.

  • These have to be file at the right date to rank right.

  • Filing date drives ranking.