Bankruptcy for Associations. It can happen, but should not.


By: Miye Johnson Yi

Things are not looking good for your association. Your association is in such a dire economic crisis that it is unable to fulfill its financial obligations. Forget about landscaping, maintenance and operation of any amenities, and fees for management services. Your association is barely able to maintain association insurance and faces the imminent threat of water termination due to its huge delinquent water bill. The fact that assessments have not increased in years and most owners have stopped paying assessments do not make things any better. So what do you do? Is bankruptcy an option under these circumstances?

More and more associations are looking to bankruptcy as an option to obtain much needed relief under extreme financial difficulties like the ones described above.However, bankruptcy is most often not a viable option for an association for both practical and legal reasons.

First, associations are different than typical corporations due to their unique nature and purpose. A Chapter 7 liquidation is almost never a viable option for a community association. There have been a small number of Chapter 11 filings where community associations have sought to reorganize their financial affairs and obtain a discharge of certain unsecured debts. But because bankruptcy filings by community associations are rare, the costs and uncertainties associated with them are greater than would exist in a typical business bankruptcy.

For these reasons, before proceeding with bankruptcy, associations should carefully consider all other options and proceed only if there are no other reasonable alternatives available.It is important for associations to first implement a plan of action incorporating all of the following:

· Raise awareness of the situation and gather support from the community;

· Take aggressive collection actions against delinquent owners to capture all assessments;

· Increase assessments to adequately cover association expenses;

· Pass special assessments to deal with shortfalls as necessary; and

· Negotiate with parties to whom the association owes money including vendors, contractors, and utility providers to lower the balances due and set up payment arrangements.

If all other remedial actions fail and bankruptcy remains the only viable option, an association may be able to reorganize under Chapter 11 of the Bankruptcy Code.Chapter 11 bankruptcies can provide associations the protections of the automatic stay while allowing associations to formulate a plan of reorganization.Reorganization may allow associations to renegotiate contracts, prevent legal/collection actions with the automatic stay and temporarily prevent termination of utility services.An association would most likely file under Chapter 11 as a “Debtor in Possession” and continue to operate in its usual manner under the microscope of the Bankruptcy Court, Trustee and all creditors pursuant to the provisions of the Bankruptcy Code.

While bankruptcy may provide relief to financially strained associations, it should be viewed as an option of last resort. In general, the better way to handle these situations is to focus on implementing a step-by-step plan to increase revenues, thereby allowing the association to meet its financial obligations and hopefully create a reserve to handle future expenses. Associations should seek advice from their legal counsel to further discuss remedial measures including bankruptcy if appropriate.