What is ‘Cramdown’
A cramdown is the imposition of a bankruptcy reorganization plan by a court despite any objections by certain classes of creditors. A cramdown is often utilized as part of a Chapter 13 bankruptcy filing and involves the debtor changing the terms of a contract with a creditor with the help of the court. A cramdown reduces the amount owed to the creditor to reflect the fair market value of collateral that was used to secure the original debt. A cramdown provision (also known as “cram-down”) is primarily used on certain secured debts, such as a car or furniture. Cramdowns are not permitted on mortgages for homes that serve as a primary residence.
Breaking Down ‘Cramdown’
Outlined in Section 1129(b) of the Bankruptcy Code, the cramdown provision allows a bankruptcy court to ignore the objections of a secured creditor and approve a debtor’s reorganization plan as long as it is “fair and equitable.” The term “cramdown” comes from the idea that the loan changes are “crammed down” creditors’ throats. A cramdown may be called a “cram-down deal” to refer to any unfavorable deal forced on creditors by circumstance. In a personal bankruptcy, a debtor may either renegotiate a loan through a Chapter 13 reorganization (utilizing a cramdown), or risk lose everything through a Chapter 7 filing, which gives secured creditors far more leverage.
Secured creditors will often do better in a Chapter 13 reorganization than unsecured creditors, and are usually the ones with objections. The unsecured creditor’s best defense against an unwanted reorganization plan is usually to stay away from arguing whether the plan is fair and equitable and to instead challenge whether the debtor can meet the plan’s obligations. The cramdown has been a valuable tool to force recalcitrant secured lenders to accept a reorganization.
Cramdowns may be used on personal property, such as a vehicle, as long as a minimum period of time has passed (based on the particular asset — 910 days for a vehicle and a year for other property). If the minimum time period is not met then a cramdown cannot be utilized and the debtor will still owe the original, agreed-to sum.
Bankrupt debtors with mortgages on investment properties (not their primary residence) are generally required to pay them off within 3-5 years after a cramdown. This short deadline creates issues for many debtors unable to pay such sums in such a short period.
Cramdowns were historically performed in the context of Chapter 13 personal bankruptcies but later spread to Chapter 11 corporate bankruptcies as borrowers attempted to reduce their debt loads. The courts extended the restrictions for loans backed by primary residences to Chapter 11 with the Bankruptcy Reform Act of 1994. During the financial crisis of 2008, cramdowns were again discussed as a way to handle the subprime mortgage crisis. Proposed efforts to remove the cramdown prohibition on mortgages eventually failed, as there was too great a risk that it would undermine the U.S. financial system by prompting bank failures and making homes unaffordable due to hugely inflated interest rates.