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Understanding a Secured Creditor's Right to 'Adequate Protection'

debt.jpgA secured creditor is a lender that takes on collateral in exchange for extending credit. If the debtor, for whatever reason, is unable or unwilling to repay their debts to a secured creditor, then the lender can take legal action to obtain the specific asset for which they possess collateral.

For example, a lender may have given a business a $24,000 loan to purchase a company truck. If payments on the loan stop coming in, then the lender can take action to repossess the truck. While this may sound straightforward enough, things become far more complicated when a company files for Chapter 11 bankruptcy protection.

Secured Creditors and the Automatic Stay

Under Section 362 of the Bankruptcy Code, filing companies are entitled to an 'automatic stay'. In simplified terms, an automatic stay provides debtors with some temporary space from creditors. For a limited time, all creditors must suspend general collection actions against the debtor company. The automatic stay applies to both unsecured creditors as well as secured creditors. For example, the company truck that the lender had a right to repossess cannot be repossessed during the automatic stay period.

Of course, the automatic stay will not last forever. When the stay period ends, then creditors can take debt collection action. Yet, during the automatic stay period, the secured creditor's asset may have lost a considerable amount of value. This is where 'adequate protection' comes into play. Under Section 361 of the Bankruptcy Code, secured creditors have a right to ensure that the fair value of their 'collateral' is adequately protected.

What Adequate Protection Means in Practice

In practice, secured creditors are owed ongoing payments while their underlying collateral 'loses' value during an automatic stay period. For example, assume that the previously mentioned $24,000 company truck is depreciating at a rate of ten percent every year. Further, also assume that the company takes one year to get through bankruptcy. In this type of simple scenario, the secured creditor's collateral (the company truck) would have lost $2,400 in value during the bankruptcy period.

However, because secured creditors have a right to adequate protection, they have a right to be compensated for that lost value. The secured creditor should be paid (generally on a monthly basis) during the automatic stay period. In this hypothetical scenario, the secured creditor would be entitled to payments of $200 per month to account for the depreciation of the truck.

Contact Our San Jose Office Today

Do you need assistance from an experienced San Jose creditors' rights lawyer? At Diemer, Whitman & Cardosi, LLP, our team is standing by, ready to help. To request a free review of your case, please get in touch with us today. We represent creditors throughout the Bay Area, including in San Francisco, Oakland, Mountain View and Monterey.


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