Many creditors in the 1.5 million bankruptcies filed each year are sophisticated and familiar with the bankruptcy claims process. But if they do no more
than file their proof of claim, they may be
missing out on valuable rights.
“A lot of businesses hear the word ‘bankruptcy’ in connection with one of their customers, put up their arms and give up,” says
Mark Bradshaw, a partner in the Insolvency
and Reorganization Practice at Shulman
Hodges & Bastian LLP. “They often do not
realize that one of the arrows in their quiver
is the ability to exercise reclamation rights.”
In October 2005, the Bankruptcy Abuse
Prevention and Consumer Protection Act
(BAPCPA) became effective. BAPCPA
expanded and clarified reclamation, theoretically making recovery of goods easier.
According to Bradshaw, the BAPCPA (which
took eight years to finalize) was “the most
heavily lobbied piece of legislation in U.S. history” because so many special interests and
stakeholders were involved. Though the
number of bankruptcy filings declined immediately following its passage, this year they
appear to be back up to pre-2005 levels.
“I am definitely seeing an increase and an
attitude shift among debtors and trustees,” he
says. “Creditors are getting more educated,
and reclamation rights are easier to exercise
— even though they are still underutilized.”
Smart Business talked to Bradshaw about
the reclamation process.
What is the legal definition of ‘reclamation’?
Reclamation rights are governed by
Bankruptcy Code Section 546, which applies
to all bankruptcy cases, including Chapters 7,
11 and 13. Reclamation is a procedure in a
bankruptcy case by which a company can
recover from the estate representative goods
that have been sold and delivered to the
debtor prior to the bankruptcy filing. Under
BAPCPA, the creditor still must make a written demand, but it now has essentially 45
days from the date goods were received. If
the 45-day period expires after the bankruptcy filing, the vendor is given an additional 20
days to make a demand.
Not many creditors are aware that this
option is available, and even fewer are aware
that BAPCPA makes it even more accessible.
In what ways has BAPCPA expanded or
improved creditors’ rights?
The estate representative — the trustee in a
Chapter 7 or a debtor-in-possession in a
Chapter 11 — has a lot of power. But if a vendor has properly exercised its reclamation
rights, the estate representative is legally
bound to cooperate with the vendor to return
the product. The reclamation creditor can
exercise its rights by making a timely written
demand to the debtor asserting its right to
reclaim goods. Even though the creditor’s
claim may be junior to a lien creditor, such as
a lender with a blanket security interest, it is
senior to the estate representative.
What limits have been placed on creditors’
rights under the 2005 amendments?
Prior to BAPCPA, there was some confusion or at least uncertainty about how lien
creditors were treated. But BAPCPA established an important limitation: If there’s a
blanket lien holder, then reclamation rights
are still subject to that pre-existing lien. In
other words, the reclamation creditor will
not jump ahead of a lien creditor that predates the reclamation claim.
If the debtor cannot return goods, what
options are available to creditors?
If the reclamation creditor fails to send
written notice of reclamation within 45 days
or if the goods are no longer in the possession
of the debtor, then the alternative is to file an
administrative claim. This is covered under
Sec. 503(b) of the Bankruptcy Code.
A new subsection of the code grants vendors the right to receive an administrative
expense claim for the value of goods delivered within 20 days prior to the debtor’s
bankruptcy filing — as long as the goods
were sold in the ordinary course of business.
Administrative claims have the highest priority, and therefore, they provide creditors with
a lot of protection. However, requesting
allowance and payment of an administrative
claim is more complicated than simply mailing a written reclamation demand to the
debtor. A section 503(b) claim is a sophisticated legal document that requires an attorney’s assistance and often a court hearing.
How can you tell that it is a good time to
exercise reclamation rights?
A creditor will know if its invoice is not paid
when due, but creditors often learn from the
debtor itself or fellow vendors that the debtor
is having financial trouble. Here, the assistance of an attorney is useful. The attorney
can search records to see if there are judgments or pending litigation against the
debtor. The attorney can also look at UCC
(Uniform Commercial Code) financing statements to see if the debtor’s assets have been
pledged to multiple creditors. This is useful to
the creditor wanting to reclaim its goods
because a lender with an applicable UCC will
take priority over reclamation rights. UCC-1s
are filed with the secretary of state, so they
are a matter of public record. Also available
is information about whether the debtor is
still in good standing with the state.
If a vendor is providing a substantial
amount of goods and/or has concerns about
its customer’s ability to pay, that vendor
should consult with a bankruptcy attorney to
advise how best to protect its rights.
MARK BRADSHAW is a partner in the Insolvency and Reorganization Practice at Shulman Hodges & Bastian LLP. Reach him at (949)
340-3400 or [email protected].
