NYC Outer Borough Landlords Flood Brooklyn’s Bankruptcy Court

A wave of distressed real estate properties in New York City’s outer boroughs of Brooklyn and Queens are dominating business bankruptcy filings at the federal courthouse in downtown Brooklyn and contributing to the district’s outsize share of cases nationwide.

The US Bankruptcy Court for the Eastern District of New York, often overshadowed by its sister court in Manhattan as a hub for corporate restructuring, has edged out all 93 other US federal districts when it comes to real estate-related bankruptcy filings over the last several years. Comprising the city’s two most populous boroughs, in addition to Staten Island and Long Island, the district abounds with largely residential properties saddled with unmanageable debts.

“That’s what people do in Brooklyn. They live there,” Brooklyn Law School professor Edward Janger said. “It has a lot of residential buildings, many of which carry mortgages that are subject to rising interest rates.”

The district’s real estate cases also now comprise roughly half of all business bankruptcies filed in the district.

“Single asset real estate” Chapter 11 cases—petitions by companies whose sole business is owning and operating a single project or property—accounted for 41.9% of all Chapter 11 cases filed in New York’s Eastern District last year, and 43.7% of cases filed during the first half of 2024, according to data compiled by the American Bankruptcy Institute. The average for the rest of the country is below 10%.

The disparity makes sense considering the real estate market in Brooklyn and Queens and rising interest rates over the last two years, according to Scott Markowitz, co-chair of the bankruptcy and corporate restructuring practice at Tarter Krinksy & Drogin LLP in New York.

There are thousands of multifamily homes and small apartments in those boroughs, “and a million reasons why these buildings get in trouble,” he said. “If you get a couple of bad tenants, then you’re not making money.”

The situation has gotten to the point where the Brooklyn bankruptcy court is overwhelmed, said New York bankruptcy attorney Jonathan Pasternak of Davidoff Hutcher & Citron LLP. It’s become typical to have to wait several hours for a scheduled hearing because the three judges there are “so overburdened” with real estate case dockets, he said.

“There’s a never-ending parade of bankruptcy auctions going on right now,” Pasternak said.

Buying Time

An uptick in real estate cases in New York, particularly in Brooklyn and Queens, tracks with growing levels of property foreclosures nationwide beginning in 2022 as federal interest rate hikes began to take effect.

At the local level, a 2019 state law limited landlords’ ability to impose rate hikes in rent-stabilized buildings after vacancies or renovations, among other renter-friendly changes.

John Horowitz, a senior vice president with real estate investment and brokerage firm Marcus & Millichap, said many of the region’s residential building bankruptcies stem from the 2019 legislation, which has had a significant impact on smaller owners of properties in Brooklyn and Queens.

“Most of the distress we’re seeing is on the rent-stabilized side,” said Horowitz, whose firm has helped broker sales in situations where owners are unable to keep up with increased mortgage rates and taxes. “As rates come down, I expect that market to improve.”

Among small residential real estate owners, the game in New York had always been to buy rent-stabilized buildings and raise rates by filling vacancies and making capital improvements, said Greg Corbin, president and founder of brokerage firm Northgate Real Estate Group. “In 2019, everything changed” and many of these buildings lost 30% of their value overnight, he said.

Many of the rent-stabilized building owners putting their properties into bankruptcy are trying to obtain leverage with their lenders or fetch a higher sale price in bankruptcy than through foreclosure. That “wounded asset class” has Corbin’s firm working on up to 25 deals at a time, whereas in the past the norm was closer to five, he said.

“This is the ramp up we’ve been planning for for 15 years,” said Corbin. “We’re getting hired on a weekly basis for one or two new properties in foreclosure or bankruptcy.”

In other cases, real estate projects in trendy neighborhoods have gotten into trouble and resorted to bankruptcy to avoid losing everything in foreclosure.

The owner of mixed-use residential and commercial space in Williamsburg that has long housed the Brooklyn neighborhood’s popular Radegast Hall & Biergarten filed for bankruptcy this year to avoid foreclosure and restructure $70 million of mortgage loan debt. Owner LENY Berry Holdings LLC said in court papers that the property should see up to $150,000 in increased monthly income next next year once it’s no longer subject to rent stabilization caps.

“There’s a lot of people out there filing them constantly to buy time,” said Long Island-based bankruptcy attorney Avrum Rosen. The goal is “to avoid foreclosure and try to cut a deal.”

Developer Dilemma

While many of the district’s real estate bankruptcies stem from established properties overwhelmed by new challenges, many were filed by developers of unfinished projects trying to capitalize on housing trends in New York.

Brooklyn developer Louis Greco last year put an 11-unit Cobble Hill waterfront condominium into bankruptcy when it was 75% to 80% complete, saying he needed additional funding from his lender to finish the project.

In May, a developer that had sought to convert a shuttered Lutheran church in the borough’s Clinton Hill neighborhood into residential units put the property into bankruptcy after it went into foreclosure.

“There was a lot of speculation going on in Brooklyn,” said Rosen. Of all the recent filings, “a chunk of them are buildings that were under construction when the pandemic hit,” he said.

Midsize projects with values from $10 million to $100 million have faced particularly acute distress following the pandemic as real estate lenders have become more aggressive and less willing to work out loan defaults. Nowhere is this more apparent than in Brooklyn, said Pasternak.

“Brooklyn is so vast and has all these different commercial-residential districts that lend themselves to a lot of investment opportunities for developers and real estate investment firms,” the Davidoff Hutcher attorney said. “And some of them got caught up in the fallout.”