Client seeks Chapter 11 reorganization to save business; senior seeks Chapter 13 reorganization instead of reverse mortgage after two loan modification denials
CLIENT NO. 1 is 58. Divorced and remarried. He has spent the last 20 years building up his business in Los Angeles. He started with importation of construction materials direct from manufacturers in Asia, mainly from China and Taiwan, at cost that were lower, a lot lower than construction materials and products made in the USA. He did not have name brand items but since the manufacturers made exactly the same product for name brands in the USA, he was able to offer the very same product, although with a different label from a name brand, at a big discount when compared to the name brand product. Let’s just say that if you placed a real “Ferrari” side by side with the product he carried, you would not be able to tell the difference. It would look exactly the same as a “Ferrari” but his product would be called “Ferraro” or “Ferrigo.” He would sell security padlocks that look exactly the same as a “Yale” padlock but he would call his padlock “Yalu”. You won’t be able to tell the difference between “Yale” and “Yalu,” except that “Yalu” would sell for half the price of “Yale.” Now, if you needed ten padlocks for you dogs, you wouldn’t mind saving 50% on $200 for padlocks that look exactly the same and function exactly the same as “Yale”. So that was his business which was doing quite well,
His annual sales last year was $4.0M with four retail outlets spread across the Southland. His profit margin was not big, but even with a 5% profit on gross sales of $4.0M, that’s a respectable $200,000 of annual profit. The problem occurred last year when he partnered with one of his foreign suppliers. There was a breach of contract and the foreign supplier ended up with a judgment against client for $1.5 M. Judgment creditor was about to put a lien on his inventory on his four retail outlets and all his bank accounts, and that would have crippled his business badly. As you probably know, businesses like this, rely a lot on supplier credit. Client owed $1.2M to suppliers, and had another $1.0M of inventory. If judgment creditor froze his cash in bank and inventory, client will not be able to recover. Further, client owned two warehouses that had secured loans of almost a million each that had very little equity.
Since client had a good business going, he needed an emergency Chapter 11 filing to prevent the judgment creditor from garnishing his bank accounts and putting a lien on his inventory. With the Chapter 11 held at bay with the automatic stay, client’s business and cash accounts could not be garnished and his inventory was intact. The problem of course is that all of secured and unsecured creditors are waiting to get paid. Unsecured creditors will not ship new merchandise without an assurance that they will get paid. I found out that the secured creditors were willing to work with client in Chapter 11 so that took care of one problem. However, the unsecured creditors and suppliers had to be reorganized.
Prior to plan confirmation, the bankruptcy court protects client’s business so that no creditor can attach any of the assets of the business. As soon as the filing is done, we proceed to figure out a business plan that will allow the $1.5 M judgment and the $1.2M of unsecured debt to be handled properly and efficiently. Needless to say, unsecured creditors and the judgment creditor will not get 100% dividend because the profit is only $200K a year. However, Chapter 11 allows client to reorganize and present a feasible Chapter 11 plan to the court for confirmation. Chapter 11 assures client that he can continue doing business as before and not worry about the $1.5M judgment against him and the $1.2M of supplier credit.
CLIENT NO. 2 is 65. Since he and his wife retired last year, they have been relying on $2500 of social security. They have a nice house with equity of $300K. The house is now worth $500K. They have a first mortgage with a balance of $100K but now past due about $20K, and another $100K of home equity loan which is current. It appears they stopped paying their first mortgage following advice of a business that did loan modifications. They were told not to pay the mortgage while the loan modification request was being processed. The problem is that they applied twice, and both times, the loan modification request was denied. The first application took 3 months, and the second application took another 3 months. So today they are 6 months behind on the mortgage. They ask if they should do a reverse mortgage.
Since I knew their family circumstances, I said reverse mortgage is a bad idea. Clients have a son who is married and an 8 year old grandson. They all live together in clients’ house. Son and daughter in law both work and make a decent living. So it makes sense for them to keep on paying down the mortgage so that eventually the family house will be debt free, or even if its not debt free, maybe by the time they pass on, only the 2nd mortgage of $100K will be left. Their son can have that refinanced and pay maybe $500 to $600 a month of mortgage and still have a great house for client’s son and his family to live in when client has gone to heaven to be with Jesus and Adonai, God the Father. I mean, compare that with having to pay $1,800 just for rent. With a $500 mortgage, he gives his family the security of having a family roof over the head that they own that is 2/3 less than rent! That is a wonderful legacy to leave to his son and his family, is it not?
With a reverse mortgage, client does not have to make any mortgage payments now and the first and second mortgage will be paid off. But that reverse mortgage balance is getting bigger and bigger every month until almost all equity is wiped out. Sure, client and his wife get to stay in the house until they die. But after they die, the bank sells the house to get paid back on the reverse mortgage. Now, when that happens, client’s son and his family will no longer have a house to live in. And given the high cost of houses in Los Angeles now, his son and family will have to rent at $1,800 probably more by that time, and not have the security of having a roof over their head. What happens if son loses his job? They may even become homeless!
Chapter 13 will allow client to freeze the past due mortgage default of $20K and pay that over 5 years in 60 equal monthly installments. Eventually, he will be current again, and eventually he will just keep on paying the mortgage down so that he can give that security to his son and his family. At the same time, once the plan is confirmed, he can make a third attempt at loan modification and he may yet succeed but at least, the house is completely protected from foreclosure and their family house is secure with Chapter 13.
“JESUS SAID TO (THOMAS), ‘I AM THE WAY, THE TRUTH, AND THE LIFE. NO ONE COMES TO THE FATHER EXCEPT THROUGH ME.’ JOHN 14:6.
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Lawrence Bautista Yang specializes in bankruptcy, business, real estate and civil litigation and has successfully represented more than five thousand clients in California. Please call Angie, Barbara or Jess at (626) 284-1142 for an appointment at 1000 S. Fremont Ave, Mailstop 58, Building A-1 Suite 1125, Alhambra, CA 91803.