What Happens When a Corporation Is Sued After It Has Filed for Bankruptcy?
The term bankruptcy carries several severe and often inaccurate connotations. To many people, bankruptcy means the end of a corporation's existence. In some cases -- and in some countries -- that may be the case. However, U.S. bankruptcy law is set up in such a way that bankruptcy typically offers a reprieve or negotiation period for indebted corporations to sort out their debts. During this period of bankruptcy protection, corporations often face lawsuits from creditors and trustees, and judges decide how these claims are handled.
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Chapter 11 Bankruptcy
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When U.S. corporations are unable to meet their credit obligations and service their debt, they often file for Chapter 11 bankruptcy. This does not mean that the company is bankrupt; it simply means that it is unable or unwilling to abide by its debt covenants and obligations. Chapter 11 bankruptcy is often referred to as "reorganization" bankruptcy. When a corporation is granted Chapter 11 status, all collection activities, judgments, repossessions and foreclosures are suspended. That means that any lawsuits filed against the corporation after it's been granted bankruptcy protection are put on hold.
Bankruptcy Protection
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Once a corporation has filed for and received Chapter 11 bankruptcy status, it is protected from creditors for an undetermined amount of time. This temporary credit reprieve is designed to give the debtor company time to renegotiate payment plans with creditors. That means that any lawsuits filed against the corporation after it's been granted bankruptcy protection is lumped together with claims of other creditors and assigned priority. In order for a lawsuit to be considered in the bankruptcy case, it must be filed as a proof of claim with the court.
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Proof Of Claim
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A proof of claim is a legal statement filed with the court that declares your claim to any money owed to you by the corporation in bankruptcy. Proof of claims must be filed before a predetermined deadline set by the case's trustee. The trustee administers the corporation's reorganization, and if accepted, he will assign priority to a claim. Typically, secured creditors receive first priority in a bankruptcy reorganization; the government ranks second. Unsecured creditors receive the lowest prioritiy and in many bankruptcy cases are not paid at all.
Reorganization Judgment
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Once the corporation reaches repayment agreements with the majority of its creditors, including any lawsuits, it will present a reorganization plan to the trustee. If the trustee approves the tentative repayment agreements, it will present them to the bankruptcy judge as a finalized plan to exit bankruptcy. Under this plan, any secured creditors who filed a lawsuit will receive some form of compensation. Unsecured creditors that filed a lawsuit may or may not receive compensation, depending upon the corporation's assets. If the judge finds that the reorganization is unacceptable, it will rule not to release the corporation from bankruptcy protection. At this time, the reorganization process will be repeated or the company will be dissolved in Chapter 7 bankruptcy liquidation.
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References
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