One of the last things any landlord wants to deal with is a tenant who files for bankruptcy. Unfortunately, the likelihood of this happening has increased since the pandemic due to the increased economic uncertainty. A tenant filing for bankruptcy may mean a struggle to claim unpaid rent—and it throws future rent payments into question. Here’s what you should know about bankruptcy, what it means for you as a landlord, and some of the steps you can take before and after it happens.
Please note that this is for informational purposes only and is not intended for legal advice. Laws may vary based on your location.
There are three general types of bankruptcy filings:
- Secured claims for debts that are supported by specific assets, like how a car loan is linked to the car itself. These secured claims typically hold the highest priority in a bankruptcy case and grant the secured creditor the authority to use the asset to settle the debt.
- Unsecured claims are debts that lack collateral, such as credit card debt. Essentially, these include debts without an associated asset that occurred before the bankruptcy filing.
- Administrative claims pertain to debts that were incurred after the debtor initiated the bankruptcy process.
The majority of people who file for bankruptcy file for Chapter 7 (often referred to as “liquidation bankruptcy”), which is typically associated with unsecured claims. Chapter 7 focuses on clearing unsecured debts like credit card debt, personal bills, and medical bills, whereas Chapter 13 bankruptcy, involves settling debts through long-term repayment plans.
When a tenant files for Chapter 7 bankruptcy, a trustee is placed in charge of all the filer’s non-exempt assets, which are then used to pay back creditors, including landlords. While there’s no guarantee you’ll get the money you are owed, there are certain things you can do things to improve your chances. The bankruptcy process for Chapter 7 takes four to six months on average and stays on a person’s financial record and credit report for up to a decade.
One of the first things that happen when someone files for Chapter 7 with the bankruptcy court is an automatic stay, which immediately requires that all attempts to collect debt from the filer cease. This means that you can’t pursue money the tenant owes you—but the decisions they make going forward will impact what happens regarding their rent payments.
What Should You Do If Your Tenant Files for Bankruptcy?
If your tenant files Chapter 7, it’s important to stay calm and gather as much information as possible.
First and foremost, you should find out whether the tenant intends to assume or reject the lease agreement. If they choose to assume the lease, they’ll be responsible for promptly settling any outstanding rent and proving they can continue to pay rent as agreed. If they choose to reject the lease, they’ll be expected to vacate the property and any money they owe you will be considered a part of their assets and subject to the bankruptcy repayment plan.
It’s important to understand that you can’t attempt to evict a tenant immediately after they file for bankruptcy due to the automatic stay imposed by the court. However, you can file a motion to have the automatic stay lifted, which is likely to be successful if the court believes there are instances of bankruptcy abuse such as hiding assets, false information provided, bad faith filing, or multiple filings. Once the motion is granted, you can begin the eviction process.
Although Chapter 7 bankruptcy provides relief from existing debt, it doesn’t release tenants from their obligation to continue paying rent. If the tenant remains on your property and fails to pay the rent, any rent they owe you is considered a valid debt. Failing to pay rent after assuming the lease gives you grounds to request lifting the automatic stay and pursuing what you’re owed.
For repayment for rent and other outstanding bills, you should create a comprehensive claim for the debt owed and file it with the bankruptcy court. This claim should include not only past-due rent, but also outstanding utility bills, expenses incurred during the bankruptcy process, and damages (up to one year of lost rent).
After filing the claim, you’ll need to wait for the bankruptcy court’s judgment regarding the tenant’s assets. The court will collect and catalog the tenant’s assets, including any potential funds for repayment. The judge will then determine whether the bankruptcy case should proceed and how the creditors (including you) will be repaid. You’ll be notified of the outcome, including details on when and how you can expect repayment, as well as how long the tenant can continue to stay on your property.
If you started the eviction process before your tenant filed for bankruptcy, it’s highly recommended to consult a creditor’s attorney. They’ll be able to tell you whether you have a case and how long the process will take.
Tips for Preventing Tenant Bankruptcy
If you suspect your tenant may file for bankruptcy, there are several steps you can take to help them avoid it—or at least remove yourself from the situation before it happens. However, this isn’t always easy, as many people are secretive about their intent to file.
- Discuss potential compromises. Talk to your tenant about the situation and see if there’s anything you can do to make things a little easier for them financially. For example, you can discuss a plan that helps them pay rent or even reduce the rental rate temporarily if you feel comfortable doing so. If you have a less expensive property they can move into, ask them if they’d be willing to relocate to it.
- Try to find an amicable way to terminate the lease. In some cases, it may be in your best interest to terminate the lease early. Take an amicable and considerate approach to this conversation with your tenant to avoid escalating the situation. You and your tenant can mutually agree to terminate the lease if you both agree it’s in your best interests, but keep in mind that you can’t force or pressure the tenant to cancel the lease.
- Report questionable bankruptcy history. Bankruptcy filing damages credit scores, but some people use it as a quick fix for debts they can’t repay. If you become aware of any information that could be questionable, such as multiple bankruptcy filings within a short period, hidden assets, false information on bankruptcy documents, or that the tenant filed for bankruptcy with a lack of good faith, it’s important to report it.
- Screen your tenants carefully. The best way to avoid facing bankruptcy is to carefully screen applicants before renting your property to them. Tenant screening will allow you to see a person’s financial history, including bankruptcy filings. You can also use their current income as an indicator of whether they make enough money to comfortably pay rent on time. Focus on finding quality tenants with reliable financial history to reduce your chances of facing this difficult situation
In addition, it’s recommended to keep a minimum of three to six months’ worth of business expenses in your savings at all times to cover your financial obligations (such as mortgage, utilities, and insurance) in case of a setback.
Tenant bankruptcy is something no landlord wants to deal with, but it’s always a possibility, even with reliable tenants. Sudden financial setbacks, such as large medical bills, can make it difficult for many people to pay their debts, so it’s always best to be prepared. Make sure to familiarize yourself with landlord/tenant laws in your state, and have all the legal forms you need ready if you suspect the worst.
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