10 Common Disputes in Chapter 11 Business Bankruptcy Cases

While many business bankruptcies under Chapter 11 go smoothly, various issues can arise during the process. When these issues arise, resolving them efficiently is usually in the best interests of all parties involved. Even so, dispute resolution proceedings will be necessary in many cases, as each party may need to gain additional insight before it is prepared to consider an amicable resolution. In these scenarios, it is essential to work closely with an experienced Miami bankruptcy litigation attorney who can assist with identifying, evaluating and pursuing a favorable outcome under the circumstances at hand.

Common Debtor-Creditor Disputes During the Chapter 11 Reorganization Process

What are some of the issues that can delay (and potentially threaten) successful reorganization under Chapter 11? Here are 10 examples of common disputes in Chapter 11 business bankruptcy cases:

1. Challenges to the Automatic Stay

When a business files for bankruptcy under Chapter 11, the automatic stay prevents its creditors from pursuing collection. However, creditors can seek exemptions from the automatic stay in some cases. If a creditor seeks an exemption—or if a creditor improperly pursues collection while the automatic stay is in place—this can lead to a dispute early in the bankruptcy process.

2. Debt Classification Disputes

When filing for bankruptcy under Chapter 11, businesses must classify their debts as either secured or unsecured. If a creditor disagrees with its classification (particularly if a creditor disagrees that its debt is unsecured), this can also trigger a dispute early in the Chapter 11 process.

3. Fraudulent Transfer Claims

Allegations of executing fraudulent transfers, or fraudulent conveyances, are also a common source of disputes in Chapter 11 bankruptcy litigation. Under Section 548 of the U.S. Bankruptcy Code, the bankruptcy trustee “may avoid any transfer . . . of an interest of the debtor in property . . . that was made or incurred on or within 2 years before the date of the filing of the petition, if the [transfer is fraudulent].” What constitutes a fraudulent transfer is further defined in Sections 548(a)(1)(A) and 548(a)(1)(B).

4. Preferential Transfer Claims

Preferential transfers are a common source of disputes in Chapter 11 cases as well. A transfer can be considered “preferential” (and thus subject to challenge) if it unfairly favors one or more creditors over others that have equal or superior rights.

5. Post-Petition Transfer Claims

Along with pre-petition fraudulent and preferential transfers, post-petition transfers can also lead to disputes between debtors and creditors during Chapter 11 bankruptcy cases. While debtors can (and generally must) continue operating in the ordinary course while their Chapter 11 bankruptcy cases are pending, executing transactions outside of the ordinary course can lead to disputes if they are conducted without appropriate authorization.

6. Turnover Actions

Creditors can pursue turnover actions to seek full satisfaction of their debts as an alternative to seeking an exemption from the automatic stay. If a turnover action is successful, this will result in the debtor (or an entity that is in debt to the debtor) being required to transfer (or “turnover”) property to the bankruptcy estate.

7. Proof of Claim Disputes

Creditors seeking to participate in a business’s Chapter 11 reorganization proceeding must generally file a “proof of claim” with the bankruptcy court. If the business disputes the existence, amount or nature of a creditor’s claim, efforts to resolve this dispute may lead to litigation if an amicable resolution cannot be reached.

8. Exemption Disputes

Businesses pursuing reorganization are entitled to exempt certain assets from the bankruptcy process. If a business’s creditors disagree that any of the business’s assets are eligible for exemption, this is highly likely to lead to a dispute as well. This dispute could take the form of a turnover action, or the business’s creditors could choose to proceed another way.

9. Disputes Concerning Debtor-in-Possession (DIP) Financing

Debtor-in-possession (DIP) financing provides a source of funding for companies that are in financial distress and that cannot wait for the outcome of their Chapter 11 bankruptcy proceeding. Existing creditors may object to debtors’ attempts to obtain DIP financing for a variety of reasons, and these objections will frequently lead to disputes.

10. Fraud Claims, Breach of Fiduciary Duty Claims and Other Similar Issues

Accusations of fraud, accusations of fiduciary breaches by the debtor’s owners or directors, and other similar types of issues can lead to disputes during Chapter 11 bankruptcy cases as well. For obvious reasons, these adversary proceedings are often highly contentious, and finding a resolution that works for all parties can require a focus on practicality with all parties’ long-term best interests in mind.

Minimizing the Risk of Disputes During the Chapter 11 Bankruptcy Process

For business owners who are contemplating a Chapter 11 filing, being aware of these potential issues (among others) is critical for making informed decisions. While there are ways to resolve disputes efficiently when they arise, the best approach is generally to avoid disputes whenever possible.

How can business owners minimize their risk of facing disputes during the Chapter 11 bankruptcy process? A focus on careful planning and thorough preparation is essential. By identifying potential concerns (i.e., potential turnover actions) and avoiding costly mistakes (i.e., fraudulent conveyances), business owners can help ensure that the reorganization process goes as smoothly as possible.

With that said, there are no guarantees. Debtors in Chapter 11 bankruptcy cases cannot prevent creditors from pursuing claims in court if they choose to do so. As a result, preparing for the Chapter 11 bankruptcy process should involve preparing for the possibility of facing disputes as well.

Schedule a Free Consultation with a Miami Bankruptcy Litigation Attorney

At Edelboim Lieberman, we represent debtors and creditors in Chapter 11 bankruptcy proceedings, including all types of bankruptcy-related disputes. If you have questions about pursuing or defending against a claim in a Chapter 11 case, we invite you to get in touch. To schedule a free consultation with an experienced Miami bankruptcy litigation attorney, give us a call at 305-768-9909 or contact us online today.