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posted: 6/16/2012 5:05 AM

Condo Talk: Basic guide to unit owner bankruptcies

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Last week's column focused on unit owner foreclosures. This week, I am going to address unit owner bankruptcy.

The filing of a bankruptcy petition by a unit owner can have a harmful impact on the association's cash flow. When a bankruptcy petition is filed by a unit owner, an automatic stay goes into effect. The stay prohibits creditors, including the association, from taking legal action against the unit owner to collect unpaid debts.

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The effect on the association is that, until the automatic stay is lifted by court order or otherwise modified, the association cannot proceed with any collection action for unpaid assessments owed by the unit owner.

There are two types of bankruptcies that are typically filed by a unit owner: a Chapter 7 (unit owner claims to have no assets) or a Chapter 13 (wage earner).

In a Chapter 7 bankruptcy, the unit owner's assets, if any, are used to pay pre-petition debts. Pre-petition debts are those incurred before the date on which the bankruptcy petition is filed. To protect its claim, and share in any distribution of the unit owner's legally available assets, the association must file a proof of claim with the bankruptcy court.

In most instances, the Chapter 7 bankruptcy notice received by the association will indicate that the unit owner has no assets from which a distribution to creditors can be made. It would not be necessary to file a proof of claim at the outset. The association should be notified by the bankruptcy court, and given an opportunity to file a proof of claim, if it subsequently (although rarely) appears that there are assets from which a distribution can be made.

At the conclusion of the Chapter 7 bankruptcy proceedings, the unit owner will be discharged from his or her personal obligation with respect to pre-petition debts to the association. It is important to note that, although the bankrupt owner is no longer personally liable for the pre-petition debt, he or she continues to be personally liable for the assessments that come due after the filing of the bankruptcy, and such personal liability continues for as long as he or she owns the unit.

In a Chapter 13 proceeding, the unit owner files a plan with the bankruptcy court for payment of pre-petition debts. Again, pre-petition debts are those incurred prior to the date on which the bankruptcy petition is filed. A typical Chapter 13 plan calls for a unit owner to make monthly payments to the bankruptcy trustee, who in turn distributes these funds to creditors, including the association.

To protect its claim and share in any distribution from the plan, the association must timely file a proof of claim with the bankruptcy court and, if necessary, file an objection to confirmation of the plan if the association's claim is understated in the plan.

Note that the owner of a unit is obligated to pay assessments and charges that accrue after the date of the filing of the bankruptcy petition for any period that the unit owner has a possessory, equitable or legal interest in the unit. If a unit owner fails to pay assessments that accrue after the date of filing of the bankruptcy petition, the association may be successful in having the automatic stay lifted by filing the appropriate motion in the bankruptcy proceedings. This would allow the association to proceed in state court to collect all unpaid assessments.

The association should advise its attorney if there has been nonpayment of assessments accruing after the date the unit owner filed their bankruptcy petition, so that the appropriate motion can be filed in the bankruptcy proceeding.

While the association cannot look to the unit owner personally for the payment of any unpaid assessments that accrued prior to the date of filing of the bankruptcy petition, the association's lien against the unit of unit owner continues. As a result, all unpaid assessments and other charges, if any, due to the association will have to be paid from the proceeds of a private sale of the unit owner's unit.

The filing of a bankruptcy petition by a unit owner can have a harmful impact on the association's cash flow. It is important for the association to monitor a unit owner's bankruptcy proceedings, keep apprised of any developments that may affect the unit owner's responsibility for assessments, and to take necessary steps to secure its rightful payment. As such, any notices that the association may receive should be forwarded on to the association's attorney.

• David M. Bendoff is an attorney with Kovitz Shifrin Nesbit in Buffalo Grove. Send questions for the column to him at CondoTalk@ksnlaw.com. The firm provides legal service to condominium, townhouse, homeowner associations and housing cooperatives. This column is not a substitute for consultation with legal counsel.

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