Article

  BANKRUPTCY 101
Primer For Self-Storage Operators
by: Kenneth Piken

Mini-Storage Messenger
May 2004

It is remarkable how most business people, in fact, quite sophisticated business people, assume that they understand not only bankruptcy and how it affects their business, but even at its most basic level, the terminology and
how each aspect of bankruptcy considerably affects a business.

Unfortunately, unless a company and its officers have experienced more than one or two bankruptcies in its lifetime, it is virtually impossible to truly grasp the far reaching implications of each type of bankruptcy filing.

There is some very old adage in this industry and it deserves mention over and over again: get a non-paying customer out and a paying customer in. Do this as painlessly as possible; as expeditiously as possible; and with the minimal cost and expense in the process, not the least of which, of course, is legal expense.

There always must be mention that in virtually every state (particularly in the Federal Court system), corporations, and therefore LLC’s, must be represented by counsel. There is simply no place for a facility manager to go to court, particularly, Federal Court, and plead their case.

Understanding Bankruptcy
It is the fundamental principal of Bankruptcy Court, and, therefore, the various filings that fall there under, that regardless of what is transpiring anywhere at any time (including a court or otherwise), there is a vehicle available to a company or person that is in trouble in meeting its obligations. That vehicle (bankruptcy) offers the advantage of a “last ditch effort” to revive itself or him/herself, so as to not suffer the consequences of an enormous battle just to go out of business in order to obtain debt relief. The philosophy of permitting entities/ persons to afford themselves an opportunity to get a “fresh start” is the fundamental enabling statute behind the Bankruptcy Code of the United States.

The Bankruptcy Code is designed as part of the Federal Court system. This gives it the benefit of having the power and jurisdiction to cross state lines; and regardless of what is transpiring in any state, a bankruptcy filing constitutes
jurisdiction over that other action. The single most fundamental aspect of a bankruptcy any person should be aware of in business is that a filing of a
bankruptcy petition “stays” everything having to do with this particular debtor until further order of the court. Private agreements, stipulations, promises, assurances, letters from counsel etc., are all nil or suffer the penalty of being in
violation of Federal Court orders, which is harsh indeed so as to be effective and uniform throughout the United States.

The filing of bankruptcy can be made in many versions. The four most common forms (absent any state equivalents) are Chapter 7 (individual bankruptcy), Chapter 7 (corporate bankruptcy), Chapter 11 (corporate
bankruptcy) and Chapter 13 (individual bankruptcy).

Any of these filings constitute an automatic stay under Section 362 of the Bankruptcy Code. That means once the debtor has been advised that a bankruptcy filing has been made, any action by any entity against the debtor is
automatically stopped. It is important that no further action be taken against the debtor because the Bankruptcy Code penalizes the violation of the automatic stay in the event the violator knew or had reason to know about the filing. The philosophy, once again, is to bring all matters to a halt rather than to let one debtor suffer further.

The stay is not only effective against the company or individual seeking to take any action, but is also effective against the Debtor themselves. In other words, the Debtor cannot file for bankruptcy and then come to your facility and take their property out of the unit, since the property technically no longer belongs to them.

There is also something known as a “barebones” filing. A barebones filing is precisely that, as no schedules have tobe attached at the time of filing withthe Court. Instead, only a short form has to be completed, which includes the
petition, a list of creditors called the matrix, and the posting of a filing fee or claim that the filing fee cannot be paid because they are so destitute.

The Trustee in a bankruptcy gets paid on a flat-fee-per-case basis. The list of trustees is usually comprised of respected bankruptcy attorneys who have been approved by the Federal Bench. The flat fee is only a minimum. They conduct what is known as a 341 hearing which examines the debts prior to any court intervention. Solely being conducted by the Trustee, it may serve your best interest to attend this hearing. This is historically the place where
credit card companies receive Trustee approval to relinquish their claims and have the debtor file for new credit. At that point, the debtor is, for all intents and purposes, debt free, thereby rendering that individual a substantially better
risk to pay their bills.

Most of the outlined items herein regarding a Trustee similarly apply to the U.S. Trustee in the cases of Chapters 11 and 13.

Resolving Your Claim In A Bankruptcy
In a bankruptcy, you must move quickly, as there could be an opportun-ity to resolve the claims within weeks and certainly just a couple of months after filing.

The most commonplace role and function of the Trustee in the case of a Chapter 7, is to liquidate the assets of the debtor subject to certain homestead allowances (car to go to work etc.) to pay off the other creditors. In the real
world, there are, perhaps, a very small percentage of matters where the prop-erty of the debtor is actually worth something so as to enable the Trustee to pay off all their debts. It should be noted that the Trustee (in addition to the
minimum fee) also receives a percentage of what is recovered.

In most bankruptcies for individuals that affect self-storage units, it is often best to seek abandonment by the Trustee. This in essence means that you would have to convince the Trustee to declare the property in the self-storage
unit abandoned, thereby permitting you to get the customer out either by sale or getting the customer to vacate.

There is also an opportunity for you to have the customer at the 341 hearing to ratify their old agreement. This ratification process means that they acknowledge the existence of the lease and intent to go forward with it. This
would protect you as well. A caveat is that any of these transactions must take place with the Trustee and, therefore, with court approval.

On the eve of one auction, a customer verbally advised the facility that he had filed bankruptcy that afternoon with no confirmation to the facility. Contacting their counsel, the facility was advised to be prudent and hold off until the
following day. There of course was no filing and the auction proceeded.

Hopefully, most facilities now have in their notice of sale the magic language “auction to be held on a certain date and continuing day to day thereafter until sold.” This language gives you some breathing room to do your due diligence and not re-notice and re-establish the auction, thereby affording you prudence without risk.

There is no Trustee appointed in the sake of a Chapter 11, which is a reorganization. In this type of bankruptcy, a corporation or entity is going to reorganize its debts, purportedly pay old debts on a percentage basis, and going forward, advise the Bankruptcy Court as to how they are going to restructure their business. They will also ask the Judge to afford them to stay in business during this restructure period.

In virtually any bankruptcy (particularly in the case of a Chapter 11), you should be mindful that the customer is a C.O.D. customer in its purest sense. As such, you must carefully prepare an occupancy agreement as to provisions
that the customer has represented, that they are, in fact, the true owner of the property, and that you have a superior lien to anyone.

It is important to be the secured party, in that you are now (other than the bankruptcy Trustee) the entity that maintains the highest claim of all. A possessory lien is rarely defeated. This would also enable the facility, in the case of abandonment, to assert a superior lien to any parties claiming secured interest in the property.

One of the most dangerous and perilous concepts in a bankruptcy is the concept of preference. The Bankruptcy Code was designed so that bankrupt companies and/or persons cannot pay off preferential payments to better
customers, family, and friends as they are about to go out of business and file. Accordingly, there is a presumption in the law that any payment made by the debtor to any vendor is a preferential payment if done within 90 days prior to
the filing of the bankruptcy. What this effectively means is that the customer, in paying you within the 90-day window, can recapture the final three months of payments made. You should not be surprised as you try to capture the right to dispose of the tenant’s property, have it deemed abandoned, or to get paid the administrative expenses, that the concept of preference comes up.

Administrative expenses are those that you, as a facility operator, should seek and undoubtedly recover from the time of the bankruptcy filing until the claim with your entity is resolved. If you ask for abandonment, however, you should also in the alternative ask for pay-ment of the administrative expenses for “preserving the assets of the bankrupt estate.” Additionally, cases of verbal mod-ifications to the agreement are ineffectual (for example, a husband calling and saying “Do not let my wife in the unit, even though she is on the agreement.”).

A document is a document, and consistently throughout business, one must ask oneself a number of questions:
1) What would be the possible harm to my business if I act too quickly or rather think about it until next Tuesday?
2) What would be the possible harm to my business if I consulted with a lawyer, as opposed to the downside should I get sued?
3) What would be the possible harm of operating under the general business rule that I will trust my reaction of the approach as “prudence would dictate”?

Kenneth M. Piken, ESQ, is a practicing attorney and senior partner in the New York based law firm of Kenneth Piken & Associates. Mr. Piken was General Counsel for the New York Self Storage Association for over 15 years, has lectured throughout the country, and has written numerous self-storage-related articles for major trade publications.

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