Your Member Has Filed Bankruptcy; Now What?

Bankruptcies are an unavoidable part of lending. The efficiency and effectiveness of your workflow to handle them, however, could be what sets your business apart. Bankruptcy is not merely a legal classification, but a fluid and changing process designed to protect both consumer and creditor. Move too early, and you face violating the automatic stay; move too late, and you could miss opportunities to recover debt.

One of the most important parts of the Bankruptcy Act, found in Title 11 of the U.S. Code, is Section 362. This outlines the automatic stay that comes into effect as soon as a member files for bankruptcy. This stay protects consumers from creditors’ collection efforts, and once in effect, you may no longer contact your member for any reason. The one exception is if members are acting pro-se – representing themselves without attorneys. In these cases, though, you must be even more careful to avoid violating the stay; communications must be limited to the bankruptcy proceedings.

The automatic stay means it is vital to proactively search for bankruptcy filings. Credit unions waiting for a notice in the mail risk violating the stay. Mail can be delayed and notices misdirected – sent to payment processing centers rather than the business office, for example. In such cases, calling a member or even sending a statement after bankruptcy is filed may put you in violation of the stay and at risk of a $1,000 fine per violation as well as punitive and actual damages.

It is not just communications that must cease, either. Once a member files for bankruptcy, their assets belong to the bankruptcy court, and automatically removing fines or fees may also be a violation. Deposit accounts cause particular challenges: All late fees and non-sufficient funds fees should stop immediately when a member files for bankruptcy.

A Broader Question

However, an effective bankruptcy process will go beyond simple compliance. It should also determine a plan of action for dealing with the member that maximizes value to the business. This means coding accounts appropriately to ensure communications are halted, but also considering more generally how bankrupt accounts will be handled. A wide range of issues must be considered if the process is to be effective:

• Reaffirmations – Members wanting to keep their account in good standing may wish to reaffirm their debt. If so, the process should ensure reaffirmation paperwork is properly filed with the bankruptcy court. Failure to do so will result in unnecessary losses.
• Proof of claims – These are generally filed on Chapter 13 or Chapter 7 cases where assets are discovered and you receive notice to file a claim. Then, a proof of claim is required. This is also true in any cases where you have secured property. Make sure the proof of claim is properly filed, accepted by the court and that there are no objections. Several recent lawsuits have also emphasized the importance of checking with legal counsel before filing proofs of claims on debt that may be out of statute.
• Conversions – Cases may switch between chapters during the bankruptcy. Keep an eye out for this. If a case converts from a Chapter 7 to Chapter 13 case, a proof of claim should be filed immediately. If the case switches from Chapter 13 to a Chapter 7, any unsecured proof of claim is unlikely to be paid.
• Dismissals – If a bankruptcy is dismissed, collections, late fees, fines and other business with the member can resume. Be aware that bankruptcies may be reinstated, however, where cases are reopened and the court allows the bankruptcy to continue. In these cases, the automatic stay is back in effect.
• Discharges – If you have a secured account you must decide what to do once a member is discharged from their debts. Where members have reaffirmed the secured debt, you should monitor for payments. If they have not reaffirmed, the process to retake the secured property should begin (generally through foreclosure on real property, or repossession in the case of a vehicle).
• Closed Orders – A final closing order is also needed before foreclosure or repossession.
• Trustees – Identify the trustee assigned to the bankruptcy case, since they are responsible for sending payments to you. Make sure you have the correct address and phone numbers for them, and keep their information handy for updates on payments of accounts.

Finally, take extra care when handling secured debt. Protecting your assets will require extra work throughout the course of the bankruptcy. In particular, creditors must monitor the bankruptcy docket closely to ensure the member hasn’t filed any motions relating to the asset in question. A motion to redeem for an auto loan or a final cure on a property, for example, can be costly if the creditor misses the motion. In both cases you only have 21 days to respond. Failure to do so may result in substantial losses.

Setting a Strategy

For these reasons, many credit unions choose to either outsource or sell their bankrupt accounts. Outsourcing to bankruptcy servicers is particularly common, and can be an efficient way to handle bankrupt accounts without the complications of setting up sophisticated processes and a bankruptcy department in-house. Debt buyers seeking bankrupt accounts, meanwhile, can offer a way to recoup some money without waiting for completion of a payment plan. Either option is preferable to writing off accounts or incurring regulatory penalties for violating an automatic stay. However, if you’re selling your bankrupt accounts, make sure the bankruptcy has not been discharged, as the CFPB is also looking closely at this.

Bankruptcies can be complex, but in many cases it is still possible to collect a substantial part of the account. Determining your strategy and putting in place a well-thought-through and informed process will go a long way in protecting your interests and ensuring you maximize the returns on these accounts.

Linda Straub Jones is Director of Collections Compliance for LexisNexis Risk Solutions. She can be reached at linda.straub@lexisnexisrisk.com.

Jeffrey A. Jones is Alliance Partner Field Account Manager for LexisNexis Risk Solutions. He can be reached at jeffrey.jones@lexisnexisrisk.com.