Priority of Claims in Bankruptcy; Bankruptcy Claims

The U.S. Bankruptcy Code establishes an order in which claims made by creditors in a bankruptcy are paid. The Bankruptcy Code's statutory ranking of unsecured claims that determines the order in which unsecured claims will be paid if there is not enough money to pay all unsecured claims in full. Claims filed by creditors are paid according to the following general rules:

• Higher priority claims must be paid in full before claims with a lower priority are paid. 
• Claims with the same priority are paid proportionately the same amount. For example, if a general unsecured creditor owed $1,000 were paid $50 a general unsecured creditor that was owed $10,000 would receive $500.
• Secured claims can be paid from the proceeds of liquidating the collateral that secured the claim.
• If the Court does not allow the collateral to be liquidated, pre-petition secured creditors with a perfected security interest will be offered other assurances by the debtor under the jurisdiction of the Court that they will be paid in full.

In a Chapter 11 bankruptcy, the DIP must completely satisfy the claims of any higher, dissenting class before the claims of classes lower in priority can participate in the reorganization.

The following claims have priority over pre-petition unsecured claims:

• Administrative expenses;
• Unsecured claims arising in the ordinary course of business after filing an involuntary petition;
• Pre-petition secured claims;
• Post-petition unsecured claims;
• Certain wage and salary claims;
• Certain claims related to contributions to employee benefit plans;
• Claims by individuals arising from deposits of money in connection with property or services for personal, family, and household use purchased but not delivered by the debtor;
• Claims of governmental agencies for taxes, including income tax, property tax assessments, employment taxes, excise tax, sales tax and customs duties.

It should be noted that the debtor or trustee may file an objection in a bankruptcy case requesting the Court to deny a creditor's claim or the creditor's characterization of it as secured, priority, or other.  On the other hand, a creditor can file an objection requesting the Court to prohibit the discharge of a debt or a particular group of class of debts, or for that matter creditors may petition the Court to deny the debtor the right to discharge any or all of its debts in bankruptcy.

Reprinted with the permission of Credit Research Foundation.

Edited by Michael C. Dennis.