Bankruptcy for Landlords and What it Means for Your Rental Property
Financial hardship can strike anyone. For landlords, missed rent payments, costly repairs, or a long vacancy can make it difficult to cover the mortgage and other expenses. If you’re considering bankruptcy, you’ll need to understand how it could affect your rental property and the tenants living there. Below, we explain common types of bankruptcy for landlords, what they may mean for your investment property, and the tenant rights you need to consider.
Main Takeaways
- Bankruptcy can put your rental property at risk. Under Chapter 7, a trustee may sell property with unprotected equity to repay creditors. Staying current on your mortgage doesn’t automatically protect it.
- Chapter 13 may help eligible landlords keep their property. You’ll need regular income and a court-approved repayment plan you can afford, usually lasting three to five years.
- Filing for bankruptcy doesn’t automatically end your tenants’ leases. Tenants may retain important rights, so get legal advice before changing rental arrangements or handling security deposits.
Common Types of Bankruptcy for Landlords
Bankruptcy is a legal process that can help eligible individuals or businesses address debts they cannot manage. Depending on the chapter, it may involve selling assets or following a court-approved repayment plan. Some debts cannot be discharged, meaning you may still owe them after the case ends.
That said, it is a complex process that requires a person to make significant sacrifices in exchange for debt relief. For example, this could include liquidating assets or forfeiting a portion of income. Additionally, your credit will take a hit, which in turn can affect your financial options for several years post-bankruptcy.
Therefore, it is an option to weigh very carefully. Since bankruptcy is a legal process, consult an experienced bankruptcy attorney to understand your rights, responsibilities, and options. A property management company in Philadelphia can help you track income, review operating costs, and manage day-to-day rental responsibilities.
Typically, bankruptcy falls into two categories for businesses and individuals: liquidation or reorganization.
Below, we focus on Chapter 7 and Chapter 13. Landlords operating through a business entity may also need to consider Chapter 11 with their attorney.
Liquidation – Chapter 7 Bankruptcy
Chapter 7 is a liquidation bankruptcy available to individuals and certain businesses, including corporations. A trustee may sell non-exempt assets to repay creditors. Exemptions protect certain property or equity, but they don’t automatically protect your entire home, vehicle, or rental property.
Eligible individuals may receive a discharge of qualifying debts. Corporations and partnerships do not receive a Chapter 7 discharge. A means test generally applies to individuals with primarily consumer debts; different rules may apply when debts are primarily business-related.
What Does Chapter 7 Bankruptcy Mean for Your Investment Property?
Your rental property may be sold if it has enough non-exempt equity to benefit creditors after accounting for mortgages, other liens, and selling costs. Keeping your mortgage payments current doesn’t prevent that sale.
If selling the property would provide little or no benefit to creditors, the trustee may formally abandon it, meaning the estate will not administer or sell it. However, your lender may still have foreclosure rights.
Reorganization – Chapter 13 Bankruptcy
Chapter 13 allows eligible individuals with regular income to repay all or part of their debts through a court-approved plan, usually over three to five years. It may help you keep your property while catching up on certain overdue payments.
Eligibility depends on Chapter 13’s own debt limits and other requirements, not on being below a Chapter 7 debt limit. Corporations and LLCs cannot file Chapter 13. You’ll also need enough income to cover the plan payments and your ongoing obligations.
What Does Chapter 13 Bankruptcy Mean for Your Investment Property?
Chapter 13 may allow you to keep your rental property if your repayment plan meets legal requirements and you can afford the required payments. Unsecured creditors generally must receive at least as much under the plan as they would in a Chapter 7 liquidation. Your rental property’s non-exempt equity can therefore affect how much you must repay.
In some cases, you may be able to modify a mortgage secured by rental property through a process called a “cramdown.” This can reduce the secured portion of the debt to the property’s value, with the remaining balance treated as unsecured debt. However, repayment requirements can make this difficult to afford. Ask your attorney if your loan and proposed plan qualify.
If you cannot keep up with the plan, the case may be dismissed or converted to Chapter 7. Keeping the property depends on more than its rental income.
Tenant Rights When a Landlord Files for Bankruptcy
A landlord’s bankruptcy can leave tenants wondering where to pay rent and if they can stay in their home. Filing alone doesn’t automatically end an existing lease. However, later decisions about the lease or property can affect tenants, so clear communication matters.
- Bankruptcy
- Assumption
- Rejection
- Assignments, Sales, and Auctions
- Security Deposits
Bankruptcy
When a landlord files for bankruptcy, their interests in property generally become part of a bankruptcy estate, which is the pool of assets handled in the case. Filing usually triggers an automatic stay that pauses many collection actions, including foreclosure. Exceptions apply, and creditors can ask the court to lift the stay. It doesn’t permanently erase debts or guarantee that the landlord can keep the property.
Assumption
Assuming a lease means keeping it in place through the bankruptcy process. Depending on the chapter, the trustee or landlord may seek court approval to assume it. Existing defaults generally must be addressed, and there must be adequate assurance that future obligations will be met. Tenants generally must continue paying rent, following any verified instructions about who should receive payment.
Rejection
Rejecting a lease in bankruptcy generally counts as a breach; it doesn’t automatically evict the tenant. Under federal law, tenants may retain possession and certain other lease rights for the remaining term and enforceable renewals. They may instead treat the lease as terminated if the rejection creates that right under the lease or applicable law.
A tenant who stays may be able to offset certain damages caused by the landlord’s failure to perform against rent. This is not permission to deduct any expense. Rejection also doesn’t automatically erase separate duties imposed by housing laws. Both parties should get legal advice before changing payments or services.
Assignments, Sales, and Auctions
A landlord or trustee may sell the rental property during bankruptcy, sometimes through an auction or another court-approved sale process. However, a sale doesn’t automatically give the buyer the right to disregard existing leases.
Some bankruptcy sales can be approved “free and clear” of certain interests. How this affects a tenant’s lease depends on the sale order, applicable law, and protections raised during the case. Tenants should review sale notices promptly and seek legal advice if their right to stay could be affected.
Security Deposits
How a security deposit is treated depends on state law, how the money was held, and the bankruptcy case. Funds properly held in trust for tenants may be protected from the landlord’s creditors. If the money is unavailable, a tenant may need to file a proof of claim by the applicable deadline.
Some qualifying consumer-deposit claims receive limited priority under federal bankruptcy law, but security deposits are not automatically first in line for repayment. Tenants should keep their lease, payment records, and deposit receipts, then contact the trustee or an attorney for guidance.
FAQs About Bankruptcy for Landlords
If you’re considering bankruptcy, you may be wondering what happens to your rental property and the tenants living there. Here are answers to some common questions.
Can You Keep Your Rental Property If You File for Bankruptcy?
Possibly, but it depends on the bankruptcy chapter, your property’s equity, and the exemptions available to you. Under Chapter 7, a trustee may sell a rental property to repay creditors. Chapter 13 may allow you to keep it through an affordable, court-approved repayment plan.
Does Staying Current on Your Mortgage Protect Your Rental Property?
No. Keeping up with mortgage payments doesn’t prevent a Chapter 7 trustee from selling a property with enough unprotected equity to benefit creditors. Your mortgage balance, available exemptions, and likely selling costs all affect that decision.
Can Rental Income Help You Qualify for Chapter 13?
Rental income may help establish the regular income needed for Chapter 13. However, you must also meet the chapter’s eligibility requirements and show that you can afford the proposed repayment plan alongside your ongoing expenses.
Do Tenants Still Have to Pay Rent If Their Landlord Files for Bankruptcy?
Generally, yes. Your bankruptcy filing alone doesn’t cancel the lease or remove the tenant’s obligation to pay rent. If the trustee or another authorized party takes over rent collection, tenants should follow verified payment instructions.
Does Rejecting a Lease in Bankruptcy Mean the Tenant Must Move Out?
No, not automatically. Federal bankruptcy law generally allows tenants to retain certain lease rights, including possession, for the remaining lease term and enforceable renewal periods. In some circumstances, a tenant may instead treat the lease as terminated. The options depend on the lease and applicable law.
Get Help Managing Your Rental Property With BMG
If you’re considering bankruptcy, speak with a qualified bankruptcy attorney before making decisions about your rental property, leases, or tenant deposits. They can explain your options and help you understand what each path could mean for you.
For help with everyday rental operations, Bay Property Management Group provides tenant communication, rent collection, maintenance coordination, and financial reporting. Our Lancaster County property management team can help you keep track of your property’s income and expenses. Contact BMG today to discuss your management needs.
