Bankruptcy Sale Proves Difficult

There’s a small, quiet world of real estate in bankruptcy that doesn’t capture the attention of the average investor. Purchasing property from a bankrupt estate can be a road to long-term gain. The process takes firm resolve and a large measure of patience.

Nothing in a bankruptcy sale seems to work as it should. There are two worlds: the real world of real estate and the bankruptcy world.

In the real world you buy a property because you like the price. In the bankruptcy world even price can be hard to discover .

In the bankruptcy world you make an offer and frequently nothing happens. Sometimes years can pass. Nobody can tell you if your offer is acceptable, or what about it needs improvement. Meanwhile, others may come to the table with offers.

In the real world there is a seller who can make decisions. In the bankruptcy world there may be constraints. You can have a hard time figuring out who is going to decide anything.

In the real world there is a seller who makes representations to you about the history and condition of the property. You rely on what is said, in addition to your own due diligence, when you decide to buy. You have the right to call the seller to account for misrepresentation.

Where is the seller in the bankruptcy world? What recourse do you have if the seller lies?

Experience teaches that people with financial problems often own properties with problems. Indeed, the problems of the property may in large measure explain the bankruptcy. All properties need maintenance. When someone is headed for bankruptcy, the first thing that’s deferred is maintenance.

After all these cautions, does it make sense ever to buy a property out of bankruptcy? Of course! Picking at the bones of another’s economic collapse may leave you a little queasy, if you have any empathy. But misfortune is the mother of opportunity.

Take time to understand the process and you will appreciate the need for patience.

The first stage of bankruptcy often happens before the owner files for protection. In financial difficulty, he or she puts a property on the market. Remember that lenders often require entrepreneurs to pledge personal assets as additional collateral for business loans. That’s why a big house may come on the market: it has equity, while the commercial property the business owns is under water.

At this stage the market may not be able to solve the larger economic problem. That great force we call “the market” knows what a property is worth; an owner’s price on the way to the bankruptcy court may get greeted with a shrug.

The initial filing usually seeks to buy time for the debtor to reorganize, free of creditor pressure. The overall bankrupt estate might have equity if the owner can dispose of some assets. Selling the personal residence, for instance, might produce enough proceeds to bring a business loan current. The business survives.

At this second stage the “debtor in possession” is much like any other seller. He or she can consider offers and respond to them. He or she can deed off property at closing.

The glitch is that the bankruptcy court must approve any sale. That takes time.

Where there is equity there may be money for creditors. Creditors want to be sure the sale fairly reflects market value. Creditors are entitled to notice that the seller wants to sell, and at what price and on what terms. Creditors will, and generally do object, to any proposed sale. The objection triggers a hearing where everyone can argue.

Even a modest bankruptcy with a few creditors gets cumbersome. In addition to the debtor’s attorney, most creditors will have lawyers. Each has the right to be heard. They will negotiate with each other in the weeks before a hearing.

In the background lurks the bankruptcy trustee, who also has an attorney. The trustee works for the bankruptcy judge. The job of the bankruptcy trustee is to preside over an orderly resolution, managing and guarding the assets and liabilities of the bankrupt estate.

When bankruptcy reaches the final stage of liquidation, the trustee is in control. The debtor is out of the picture. Still, any sale of real estate triggers a notice to creditors, objections, negotiations and hearings.

In a liquidation the trustee signs the deed. Don’t take title without title insurance.

At this final stage nobody except the judge can stop the trustee from selling for true market value. That value has nothing to do with what the original debtor needed it to be worth. That value is what you are prepared to pay for it, if the trustee agrees.

This is the time to buy.

A secured creditor still can object. If they have an interest in the property the trustee can brush the objection aside and sell you the property anyway. The trustee might, however, give the property back to the creditor.

This leaves you to redirect your purchase effort in that direction. After years of horsing around you can discover that the creditor now owns the property and refuses to sell it to anyone.