What Happens if You Don’t Object to Bankruptcy Claim?

15 Oct What Happens if You Don’t Object to Bankruptcy Claim?

If a creditor files a proof of claim in a Bankruptcy Proceeding, it is deemed allowed unless you or another interested party objects. So what does “allowed” mean and what are its ramifications?

An allowed claim can have significant repercussions. To start, if there are dividends that will be paid in the bankruptcy proceeding to creditors, it will be paid according to its §507 ranking. In chapter 13, that means part of your plan payments may go to that creditor, and if a trustee is administering any assets in a chapter 7 case, payments may be made to that creditor via distributions from liquidated property. But there are other significant ramnifications, at least in the Ninth Circuit.

In the Ninth Circuit case ofSiegel v. Federal Home Loan Mortgage Corp., the Appeals Court held that a bankruptcy court’s implicit allowance of a claim is a final judgment giving rise to res judicata, even though there is no “actual separate order of some kind regarding the claim in question.”

The Ninth Circuit Court of Appeals Panel had to decide whether or not claims that are “deemed allowed” pursuant to 11 U.S.C. 502(a), should be given res judicata effect even though a separate order formally “allowing” the claim was never issued.

In that case, the creditor filed 501 proofs of claim relating to the two properties at issue in the bankruptcy proceeding. The debtor did not file objections; neither did the bankruptcy trustee. As a result, the claim was ” deemed allowed” pursuant to §502(a).
When the debtor later attempted to sue the creditor in Federal Court for tort and breach of contract actions, his case was dismissed.
The Appeals Court explained:

What . . . can “deemed allowed” mean? It must mean deemed allowed by the court. In other words, it is deemed that the court has acted on the claim and ordered allowance. Congress has relieved the court of the task of actually endorsing its allowance of the claim on that document or on a separate form or order. . . . It would be most peculiar if the effect was that uncontested and allowed claims had less dignity for res judicata purposes than a claim which at least one party in interest thought was invalid or contestable in whole or in part. We see no reason to embrace that rather peculiar result. Rather, we see §502(a) as a recognition of the fact that people can raise objections and litigate them, if they see something wrong with a claim, but if they do not, the claim will be treated in all respects as a claim allowed by the court itself.

Thus, claim allowance has res judicata effects, even if there is no specific ruling by the bankruptcy court on the claim. In other words, an allowed claim will bar (or preclude) all future litigation of the same cases between the same parties. This can be significant in many respects, and ultimately reak havoc to a debtor in the future for failing to object. The following examples illustrate why:

Priority Claim: If an improper tax claim, support claim, or other priority claim is filed, and for some reason is not paid in full in chapter 13 or paid at all in chapter 7, that claim will survive the bankruptcy with the creditor having recourse against the debtor, even if the claim is significantly inflated, completely improper, or has no legal justification.

Secured Claim: If a vehicle, real estate, or other secured claim is filed and not paid in full in chapter 13 or paid at all in chapter 7, the validity of that claim is no longer subject to attack. That means if the creditor files an incorrect claim wherein all payments are not reflected, charges improper fees, improperly inflates the contract balance, or otherwise submits innacuracies which increase the claim or actual value of the property, you are locked into that mistake and can not later challenge the same. This can be quite significant in real estate cases where improper fees and charges are routinely added to the mortgage balance.

Counterclaims: Probably the most significant and detrimental impact of failing to object to a proof of claim is that you lose all counter claims and defenses. Thus in the mortgage context, if you have TILA, RESPA, HOEPA, or other counterclaims against your lender and fail to raise the same via claim objection, those claims are forever lost. Likewise, if you have counterclaims against credit card companies for abusive debt collection practices arising from the FDCPA and State FDCPA statutes, those counterclaims are forever lost as well.

So always be sure to examine any claims that are submitted in your bankruptcy case for error. Failure to do so will validate the error and remove your rights to later contest the same. Likewise, failing to object to a claim where counterclaims exist will eliminate the right to later bring those counterclaims.

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