How Secured, Unsecured and Priority Claims Are Treated in Bankruptcy
Bankruptcy cases can involve three different classes of debts or claims: secured, unsecured and priority. Anyone involved in a bankruptcy as a debtor, creditor or interested third party should have a basic understanding of these types of claims and how each type is treated in a bankruptcy case.
A secured claim is a financial obligation for which there is collateral to guarantee the payment of a debt. The collateral can be most any type of property, such as real estate, business inventory and personal goods. With most secured claims, the debtor voluntarily pledges an interest in property to the creditor. For instance, a car buyer who finances the purchase allows the lender to hold title to the vehicle until the loan is paid in full. Some loans are secured involuntarily, usually by operation of law. For example, municipalities have an automatic lien on real property for payment of real estate taxes by the owner.
When necessary, creditors holding secured claims are generally allowed to collect by forcing the sale or forfeiture of the collateral. Creditors with secured interests are in a favorable position and are likely to be repaid. However, not all secured creditors are guaranteed to be repaid in full. Sometimes the debt is under-secured. That is, the present value of the property used as collateral is less than the amount of the outstanding debt. In such cases, an under-secured creditor will only recover a portion of the debt.
Unsecured claims are general obligations for which there is no collateral either pledged or created by operation of law. The debtor promises to pay the creditor the specified amount, plus interest or finance charges. Examples of unsecured debts are credit cards, utility payments and medical bills. If the debtor fails or refuses to pay the outstanding obligation, the creditor can sue and seek to recover payment from the debtor’s existing assets or future income. However, enforcing unsecured debt is difficult. Unsecured creditors are likely to get little or nothing back from the debtor in bankruptcy.
Priority claims are a sub-type of unsecured debt that receive special treatment. These claims are usually paid in full even though there is no collateral interest to enforce. Most priority claims reflect obligations that are deemed important as a matter of public policy, such as these:
- Child support payments
- Alimony payments
- Income taxes due
- Employee payroll taxes
Priority claims are first in line for repayment under the bankruptcy code. As such, priority debts are more likely to be paid in full.
Bankruptcy cases are generally conducted in accordance with strict scheduling and time limitations. Debtors and anyone with a financial interest in a bankrupt debtor should seek the advice and counsel of an experienced bankruptcy attorney.
The Law Offices of Michael Jay Berger in Beverly Hills is one of California’s most prominent bankruptcy law firms. Feel free to contact us online or call 310-271-6223 to schedule an initial consultation.