By Bernard Fensterwald
At some time, most self-storage operators face a tenant who files for bankruptcy. This article offers a framework for how the bankruptcy system operates and the self-storage operator’s roles and rights.
Bankruptcy in the United States is as old as the Republic itself. In fact, the U.S. Constitution permits the Congress to establish bankruptcy courts throughout the country. Congress passed the first Bankruptcy Act in 1800.
In 2010, nearly 1.6 million bankruptcy actions were filed in the United States. According to a Harvard University study, roughly 62 percent of bankruptcies are due to excessive medical expenses. In 78 percent of these cases, debtors had insurance. The rising tide of unemployment is also a contributing factor.
Some argue bankruptcy is a way for people to engage in fraud and avoid their debts. In 2007, Congress addressed these issues. Now, many debtors must go through a credit-counseling process prior to declaring bankruptcy.
An important first concept to understand about bankruptcy is the courts established to handle these matters are federal, not state or city. The United States is divided into 94 judicial districts. In each, there’s a federal district court and a federal bankruptcy court. For example, the state of Florida has three judicial districts: northern, middle and southern. Courts in these three districts sit, respectively, in Tallahassee, Tampa and Miami.
It’s important for self-storage operators to know in which federal judicial district they reside. It’s also a good idea for them to familiarize themselves with their local bankruptcy court, its rules, contact points and operating procedures.
How Bankruptcy Works
There are typically three parties to each bankruptcy case. The debtor is the person who files the petition seeking a discharge of debts. The creditor is the one to whom a debt is owed. The trustee is the individual who’s entrusted to hold the debtor's assets in trust while the bankruptcy court sorts out who has a priority for a return of some or all money owed. In some business-related bankruptcy proceedings, called Chapter 11, the debtor is permitted to control its own assets as a debtor in possession. Self-storage operators are typically creditors.
Bankruptcy proceedings arise when a debtor files a petition with the bankruptcy court seeking a discharge from his debts. These proceedings are normally filed as either a Chapter 7 (complete discharge) or a Chapter 13 (individual-debt adjustment). In the first instance, a debtor seeks total relief from debts; in the second, the debtor seeks to reorganize his finances and pay all or a part of what’s owed under a court-approved plan. There’s a separate Chapter 11 proceeding for businesses seeking to reorganize and stay in business.
An important concept to understand in bankruptcy is what’s referred to as the automatic stay. Once a debtor files a bankruptcy petition, any and all action by creditors to collect a debt must cease immediately or severe penalties may apply.
What this means for self-storage operators is simple: If you’re in the process of using your state's self-storage lien law to enforce your lien, i.e., auction process, and you’re notified a tenant has filed a bankruptcy petition, you should immediately freeze the process at whatever stage it’s in. If you’ve filed an action in state court to collect money from a tenant who’s filed a bankruptcy petition, your attorney must notify the state court.
As a creditor, you’ll normally receive written notice from the bankruptcy court that a petition has been filed. Of course, this assumes the tenant has listed you as a creditor in the petition. Whether you’ve been listed as a creditor or not, if the tenant tells you he has filed a petition or you receive notice via a third party, you should stop any proceedings to collect the debt. At this point, it’s a good idea for you to contact your local bankruptcy court, either by phone or online, to determine whether the tenant actually filed a petition, when it was filed, the file number, the schedule of hearings, etc.
The purpose of a bankruptcy petition is for the debtor to obtain a discharge of debt. Meanwhile, the debtor is happy to leave goods stored at the facility for an indefinite period. This can result in a continuing burden for the self-storage operator.