New Bankruptcy Law Closes Loopholes:  Community Associations Have More Protection Against Abuses

By Darcy Mehling Good, Esq.

Although there are indications that the economy is improving, Ohio is still lagging behind the recovery experienced in other parts of the country. Unfortunately, many board members know this first-hand because they see how many of their owners are delinquent in paying fees. As a reflection of these difficult times, it is not uncommon for 10% of an association’s members to be delinquent. Regardless of the number, delinquencies hurt every association’s operations and put a greater burden on the board to adequately fund the property.

To combat this problem, most boards adopt stringent collection policies and aggressively pursue all delinquent accounts. Despite the board’s best efforts, however, delinquent owners have been able to take advantage of the bankruptcy system to delay the collection process. For example, although bankruptcy protection is supposed to apply only to debts due at the time of bankruptcy filing (pre-petition fees), many delinquent owners file for bankruptcy to avoid their obligation to pay all fees, including those owed months after the bankruptcy filing. Because of loopholes in the bankruptcy code, owners could successfully delay the foreclosure process for months, if not years. Two of the biggest problems resulted from:

  1. Delinquent owners’ obtaining a Chapter 7 discharge and then moving out of the unit to avoid having to pay the maintenance fees due after filing (post-petition fees); and

  2. Delinquent owners’ refiling bankruptcy over and over again to cause delay.

Because of these types of abuses, Congress was finally forced to act, and on April 20, 2005, President George W. Bush signed the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. The new law applies to all bankruptcy cases filed on or after October 17, 2005. It closes many of the loopholes that permitted owners to take advantage of the system and will go a long way in improving an association’s ability to collect fees from delinquent owners.

For community associations, one of the biggest improvements of the new bankruptcy law is that it closes the loophole that allowed owners to avoid paying post-petition fees by vacating the property. Formerly, owners did not have to pay post-petition fees unless they lived in the unit or collected rent from a tenant. The new law provides that the owners are responsible for paying all post-petition fees as long as they own the unit, whether or not anyone lives there.

The new law also adds protections against multiple bankruptcy filings, provided the community association is secured by a recorded lien. It will now be easier for the association to obtain relief and proceed with foreclosure if the owner filed the bankruptcy to delay or hinder the collection process. This change will hopefully reduce the number of times an owner may file, have the case dismissed, and then re-file bankruptcy. Another advantage is the increased time period delinquent owners will need to wait before filing a new bankruptcy, even after completing an old one.

Furthermore, the ability of owners to abuse the bankruptcy system will be reduced by requiring the owners to undergo financial counseling before they file. Then, once they file, the law requires them to take a financial management course before the Court will grant a discharge of unsecured debts. The purpose of these provisions is to minimize the bankruptcy cases filed by owners who are just looking to delay the collection process.

Most importantly, the new law prohibits owners from filing a Chapter 7 bankruptcy unless they qualify under a “means” test. The “means” test is based upon the median income for each state. As a result, more people will have to file a Chapter 13 bankruptcy, which forces the delinquent owner to pay the association the pre-petition fees through a court-approved plan. If a community association has recorded a lien, then the Bankruptcy Court will generally require the owner to pay 100% of the pre-petition fees owed. As always, the most important tool for protecting an association’s interest is filing a lien against the property. Liens should always be filed on accounts that are three months delinquent.

Because the new bankruptcy law closes many loopholes, community associations should have more protection from delinquent owners. As a result, community associations will hopefully be able to collect more maintenance fees, which should ease the board’s burden in meeting the financial needs of the association.