10 Things Home Buyers Should Know About their Deposits if the Builder Goes Bankrupt
When a home builder goes bankrupt, home buyers are confronted by a serious question – what will happen to the deposits which they have put down?
*For up-to-date information, download property descriptions & valuations in Quarterly Reports on Properties from Distressed Home Builders
#1 One of the most important questions is whether the deposit has been placed in an escrow account. If the deposit is being held in escrow and the closing does not eventually occur, the buyer may be able to request the title company to release funds.
#2 If the money has been put into the builders’ general operating funds, problems emerge in bankruptcy. Secured creditors, especially those secured on substantially all assets (including personal property), may contend that the cash deposits held in the builder’s general bank accounts fall under their blanket lien. Worse still, the builder might have spent the money.
#3 Cash deposits in the builder’s general accounts may be considered the secured lenders’ “cash collateral” and the builder can be prohibited from using the cash without lenders’ consent or a court order authorizing its use.
#4 A bankruptcy filing triggers off an automatic stay. As such, even if the builder wishes to close the sale, it cannot do so without obtaining court approval to sell homes in the ordinary course of business. For builders which are still a going concern, authorization for home sales is typically one of the first few motions. For example, on the day Heritage Highgate filed for bankruptcy, it filed an emergency motion to sell real estate.
#5 Buyers might think builders in bankruptcy will do more to make the deal more attractive to persuade them to consummate the sale. Sale incentives are quite common, but these are, again, subject to creditors’ objections and court approval.
#6 Bankruptcy protection for the home builder comes with the ability to assume or reject sale contracts. If the sale contracts came on the heels of the bankruptcy and are pegged at low prices, the builder may reject the contracts, citing that they are financially detrimental to reorganization (or rather, getting a plan sponsor).
#7 Home buyers for sales which failed to close can demand a refund of their deposits and rejection damages. However, unless the builder had court authorization to refund deposits, the deposit may be considered an unsecured priority claim up to $2,425. Any amounts exceeding this threshold are considered general unsecured claims which, historically, involve low recovery rates.
#8 Even in cases where the builder filed a court motion seeking authorization to refund deposits, the court may entered an order granting limited relief. For example, Mercedes Homes requested permission to refund up to $4.5 million, but the court order limited the amount to $200,000.
#9 Not every home buyer can assert a priority claim of up to $2,425. Unsecured priority claims relate to the purchase of property for personal, family, or household use. This means that it generally includes buyers who intended to use the home as a primary residence and excludes investment purchases.
#10 In major home builder cases, like Levitt & Sons, the court may direct the US Trustee to appoint a Committee of Deposit Holders, which can then appoint counsel to represent the class of home buyers who are deposit holders. The fees and costs incurred by counsel of the committee may be paid out of the bankrupt builder’s estate, subject to court approval of the fee applications.
