If an owner files for bankruptcy, it’s critical that construction professionals know how to appropriately respond. Consulting with one of our experienced Jacksonville construction lawyers is a great place to start. As we will discuss in this section and in the final section, depending on the circumstances of the project at the time of the bankruptcy petition, a contractor can take certain steps to either ensure payment or have their contract terminated.
As we discussed in the last section, when an automatic stay is in place, a creditor cannot simply terminate their contract and move on to another project. If a creditor has a contractual agreement with the debtor, they must be granted approval by the bankruptcy court to terminate this executory contract. An executory contract means that the work was not yet completed by the construction professional.
The Process of Terminating a Contract
Generally, when an owner elects to file for bankruptcy under Chapter 7, they likely have already defaulted before their filing. Because the debtor is in the liquidation phase, they probably do not have the means to complete the project. However, for Chapter 11 filings, the bankruptcy court provides the debtor with ample time to consider whether or not they want to honor these contracts. In some cases, this reorganization phase can take several months before the debtor elects to either assume or reject the executory contract.
Contracts and the Reorganization Process
With the bankruptcy court’s approval, the debtor will typically assume any contracts that can improve the value of the estate and reject any contracts that do not yield a financial gain. If a debtor rejects a contract, they are responsible for any damages that transpire because of this breach of contract. However, these damages would be classified by the bankruptcy court as a general unsecured claim.
If a debtor assumes a contract, they are required to resolve any defaults they experienced before the bankruptcy filing. They are also required to compensate the creditor for any financial losses they experienced because of the default. Lastly, if the contract is assumed by the debtor but then breached at a later date, the damages from this are classified as an administrative expense that becomes a priority reimbursement payment.
Accelerating the Reorganization Process
The right legal counsel can expedite this reorganization process by filing a petition requesting immediate action by the debtor to either assume or reject the executory contract. For more information on bankruptcy and the construction industry, please read the first, second, and third sections of this six-part article.
Disclaimer: The information contained in this article is for general educational information only. This information does not constitute legal advice, is not intended to constitute legal advice, nor should it be relied upon as legal advice for your specific factual pattern or situation.