How Does Bankruptcy Effect Creditors?

The Effect of Bankruptcy on Creditors

During Bankruptcy, secured creditors retain their right to exercise securities over assets; however, if there are shortfalls that arise as a result of securities not satisfying the full debts, the creditor may then file a ‘Proof of Debt’ for an opportunity to receive a dividend in the bankruptcy in place of the shortfall.

All unsecured creditors can exchange their right to pursue arrears for their appropriate and proportionate dividend in the bankruptcy. They cannot pursue any shortfalls in which their dividend fails to satisfy the balance of arrears.

Unsecured Creditors

  • The major effect that bankruptcy has on unsecured creditors is that the creditors are no longer able to pursue the bankrupt for debts outstanding unless the permission of the Court is obtained. Unsecured creditors are also not able to enforce any remedies against property of the bankrupt after bankruptcy, as the property vests in the Trustee for the benefit of all creditors.
  • Creditors’ rights against the bankrupt lie in their ability to claim in the bankrupt estate and participate in any dividend that may be paid from funds recovered by the Trustee. Upon the bankrupt’s discharge from bankruptcy, the bankrupt receives a release from provable debts generally.
  • Some debts though are not provable in bankruptcy and as a result will not by extinguished as a result of the bankruptcy. The bankrupt does not obtain a release from debts incurred by means of fraud, penalties or fines imposed by a Court, sums payable under maintenance agreement or order and HECS debts.

Secured Creditors

  • Secured creditors with valid security are able to enforce their rights pursuant to charges or securities that they hold over assets of the debtor.
  • Secured creditors are entitled to claim as an unsecured creditor for the amount by which their debt exceeds the value of the property over which they hold security.
  • A secured creditor may however forfeit its security and claim for the full amount of its debt.
  • Where a secured creditor has realised its security, it may lodge a claim in the estate for any resultant deficiency.