What Happens If the Defendant Files for Bankruptcy During a Lawsuit?

What Happens If the Defendant Files for Bankruptcy During a Lawsuit?

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If a defendant files for bankruptcy during a lawsuit, the case is automatically paused (stayed), and the plaintiff’s ability to recover compensation becomes uncertain. Below are the key implications and potential outcomes:

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1. Automatic Stay of the Lawsuit

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Under 11 U.S. Code § 362, a defendant’s bankruptcy filing triggers an automatic stay, halting all litigation against them. This means:

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Pending lawsuits cannot proceed unless the bankruptcy court grants permission.

Judgments (if already awarded) may be discharged (wiped out) unless exceptions apply.

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2. Plaintiff Becomes a Creditor

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If the lawsuit is unresolved, the plaintiff becomes a creditor in the defendant’s bankruptcy case. However:

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Priority of Claims: Creditors are paid in a specific order (e.g., secured creditors like banks first, unsecured creditors like plaintiffs last).

Limited Recovery: If the defendant lacks sufficient assets, the plaintiff may receive pennies on the dollar or nothing.

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3. Exceptions to Discharge

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Certain debts cannot be discharged in bankruptcy, including:

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Willful or intentional harm: Judgments for injuries caused by drunk driving, fraud, or intentional acts are often protected.

Non-dischargeable debts: If the court rules that the debt falls under 11 U.S. Code § 523, it may survive bankruptcy.

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4. Impact of Bankruptcy Chapter

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Chapter 7 (Liquidation): Assets are sold to pay creditors. If the defendant has no assets, the plaintiff may recover nothing.

Chapter 11 (Reorganization): The defendant restructures debts but may still avoid paying unsecured claims in full.

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5. Insurance as a Safety Net

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If the defendant has liability insurance, the plaintiff can pursue compensation through the insurer, even if the defendant files for bankruptcy. Bankruptcy does not relieve insurers of their obligations.

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6. Risks for Plaintiffs

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Delayed or Lost Compensation: Bankruptcy proceedings can take years, and recovery is uncertain.

‍Complex Legal Process: Navigating bankruptcy court requires expertise to file claims, challenge dischargeability, or seek relief from the stay.

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What Plaintiffs Can Do

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1. Consult a Bankruptcy Attorney: Assess whether the debt is dischargeable and explore options like relief from the stay to resume litigation.
2. File a Proof of Claim: Submit a claim in bankruptcy court to preserve your rights as a creditor.
3. Pursue Insurance: If the defendant has coverage, target the insurer for payment.

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Key Takeaway

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A defendant’s bankruptcy complicates but does not necessarily end a lawsuit. Plaintiffs must act quickly to protect their rights and explore alternative avenues for recovery. For guidance, contact Hall & Dixon or a bankruptcy attorney to navigate these challenges.

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Read: Damage Caps: Is There a Limit on Wrongful Death Compensation in NC?