In bankruptcy cases, a lien is a claim that a creditor has on the assets or property of a debtor. Liens are granted as assurances to creditors that they will receive compensation to satisfy debts in case of non-payment. Liens can be voluntary or involuntary. While voluntary liens are usually contractual, involuntary liens are statutory rights provided to creditors.
Voluntary Liens
Credit is the basis for most commercial and consumer transactions. Lenders or creditors extend money or credit with the expectation that they will be repaid with interest. To ensure repayment, consumer contracts often include provisions on the issue of non-payment. The language creates a lien on specific property, usually the subject item of the contract, if the Consumer Debtor defaults. Voluntary liens include mortgages, car loans, security interests, and chattel mortgages. Chattel mortgages are moveable property such as home furnishings and vehicles.
Involuntary Liens
Involuntary liens are derived from statutes that grant creditors assurances that loans will be repaid. Examples of involuntary liens include tax liens, mechanic's liens, attorney's liens and weed liens. The underlying policy of involuntary liens is to protect creditor-debtor transactions. For example, work on property would come to a standstill if workers were not repaid for their labor. Mechanic liens provide assurances that workers in certain industries such as construction will get due compensation. Weed liens are assessments that allow local governments to step in to prevent untended properties from becoming public hazards.
Lien Avoidance and Lien Stripping
Certain liens can be "avoided" or stripped under the Bankruptcy Code. Situations where this may occur include liens that are preferential, that are secret or that impair exemption.
Preferential
Preferences are unfair pre-filing transfers to creditors which in effect place them above other valid creditors in line. To prevent these "preferences" the Code allows bankruptcy trustees to step in and retrieve the transferred assets through avoidance. The burden is on the trustee, however, to prove that a transfer meets the definition of a preferential transfer. The elements include that the transfer was for an antecedent owed to or on behalf of a creditor and made while the debtor was insolvent on or within 90 days before the petition was filed. If the creditor was an insider, was 90 days to a year before the filing. The other prong of the definition is that the transfer enables the creditor to receive more than if the case was under Chapter 7.
Secret Liens
Courts also use avoidance where a creditor's lien was secret as they put both secured and unsecured creditors at a disadvantage and can upset priority. Excepting mechanic's liens and tax liens (which are common secret liens), creditors are protected from those who do not properly record their lien interest. The general rule behind secret lien avoidance is that the creditors may not have extended credit if their lien search had found that a specific collateral was already encumbered.
Exemption Impairment
Avoidance is usually granted in a Chapter 7 bankruptcy where exempt assets are encroached upon. Chapter 7 bankruptcies are considered "no-asset" cases where the debtors are allowed to retain specific assets and property, especially those needed for day-to-day living.
Find an Attorney
Before you file for bankruptcy, you need to determine what liens attach to your property, both exempt and non-exempt. This will help you avoid issues regarding distribution and retention. Talk with a bankruptcy attorney to protect your interests during the proceedings.
