Chapter 13 v. Chapter 11 Bankruptcy for Small Business Owners

If you're tired of juggling finances, struggling to make payroll, or have run out of ways to keep important suppliers paid, it makes sense to consider your bankruptcy options. Bankruptcy is often the only viable option for a small business in financial distress. Here's how it can help:

• If lowering your monthly debt burden would help keep your company afloat, restructuring business debt under Chapter 11 or your personal debt under Chapter 13 might be the answer.
• If your business is closing or already closed, a "straight" or "liquidation" Chapter 7 bankruptcy for yourself or your business could streamline the winddown process or relieve you of liability associated with personal guarantees.

Below we focus primarily on the benefits of restructuring business and personal debt through payment plans using Chapters 11 and 13. Consider learning about other small business bankruptcy topics, including Chapter 7 bankruptcy for small business owners.

Reorganization Benefits for Small Business Owners

Chapters 11 and 13 both allow debtors to propose a plan to restructure their finances, which can help a company stay in business. If you qualify, a Chapter 11 or a personal Chapter 13 (with limitations) plan can:

• allow you to retain property needed to operate your business
• give you time to sell assets you don't need or can't afford to keep
• modify payment terms on secured debts (like real property mortgages or equipment loans), and
• discharge (eliminate) obligations you can't pay over the plan term (in Chapter 11 only).

Keep in mind that a business can't file Chapter 13 (with the exception of sole proprietors). But even so, a small business can benefit from an owner filing for Chapter 13 because it can free up cash, which is why some small business owners choose Chapter 13 over Chapter 11.

By contrast, Chapter 11 can provide more flexibility for the business itself, but it usually costs too much and takes too much time to be a realistic option for small business owners. Fortunately, business owners now have a cheaper choice that works more like Chapter 13 bankruptcy called "Chapter 11, Subchapter V."

Eligibility for Chapter 11 or Chapter 13 Bankruptcy

Virtually anyone can file for Chapter 11 bankruptcy, but all small businesses are ineligible to file for Chapter 13 except for sole proprietors. Here's how it works.

Chapter 13 eligibility. Chapter 13 is available to individuals and sole proprietors with regular income. Small companies formed as corporations, partnerships, or other entities aren't eligible for Chapter 13 relief. However, that's not to say that someone who owns a business can't file an individual Chapter 13, and sometimes doing so helps.

Most filers' plans direct income toward the debts filers want to be paid most, like mortgages, car loans, equipment payments, and other secured obligations. Filers pay significantly less toward credit card debt, medical bills, and unsecured personal loans. Also, business debts you're personally liable for will be included in your plan.

However, not everyone qualifies for Chapter 13. You'll need sufficient income to support a Chapter 13 plan and will be subject to debt limitations that change periodically and other Chapter 13 eligibility requirements.

As of April 1, 2022, a filer's debt can't exceed $1,395,875 in secured debt and $465,275 in unsecured debt. These figures apply to cases filed between April 1, 2022, and March 31, 2025.

Chapter 11 eligibility. Almost anyone can file for bankruptcy under Chapter 11. Individuals, corporations, partnerships, joint ventures, and limited liability companies are all eligible to be Chapter 11 debtors. There are no debt or income requirements or limitations for filing bankruptcy under Chapter 11.

Chapter 11 Subchapter V is limited to "small business filers" with a total debt burden of $3,024,725 or less (valid April 1, 2022, through March 31, 2025).

Learn about other options for struggling businesses in Small Business Bankruptcy.

Chapter 11 Proceedings: Pros and Cons

Chapter 11 cases are complex and expensive, which is the most significant disadvantage for small business owners. It's also why Chapter 11 cases make up only a tiny percentage of bankruptcy cases filed. However, special procedures available to small businesses through Chapter 11, Subchapter V can help lower costs significantly.

Important Chapter 11 advantages include:

• The plan creates new contract terms between the debtor and creditors and can be as long as needed, which is helpful for a small business debtor who needs extended payment terms on real property mortgages or equipment loans.
• If less than the full balance on a particular debt is to be paid in the plan, the debt discharge will occur at plan confirmation (approval) rather than after completion of the plan, unless the court approves a plan without creditor consensus in Chapter 11, Subchapter V cases.
• Unlike Chapter 13, Chapter 11 doesn't require debtors to turn over their disposable income to a trustee. The "debtor in possession" remains in control of the business.
• In Chapter 11, the appointment of a trustee to manage the case is the exception rather than the rule and is usually appointed when gross mismanagement or fraud is suspected.

Also, small business debtors can take advantage of special provisions that help streamline Chapter 11 matters. You'll qualify as a small business debtor under Chapter 11, Subchapter V if you're an individual or entity who is:

• engaged in business or other commercial activities, and
• meets current debt limitations of $3,024,725 (amount valid when filing between April 1, 2022, and March 31, 2025).

For more information, see Chapter 11 Bankruptcy: An Overview.

Chapter 13 Proceedings: Pros and Cons

The biggest downside to Chapter 13 is that it's available only to sole proprietors filing as individuals. Also, the debt limitations are significantly lower than those for small businesses in Chapter 11, Subchapter V.

Other limitations include:

• Chapter 13 plans are limited to five years, which can be difficult if the debtor must pay a lot to retain assets needed to continue in business. For instance, the debtor might owe substantial arrearages for equipment used as collateral to secure an overdue debt.
• The debtor must pay all disposable income—the difference between his or her monthly earnings and the amount reasonably necessary for support—into a repayment plan.
• A Chapter 13 trustee is always appointed to distribute plan funds to

However, sometimes, a business owner really only needs help with personal debts. In that case, an individual Chapter 13 filing would likely be the preferred choice because:

• It's significantly cheaper to file for Chapter 13 than Chapter 11.
• The plan approval process tends to be quicker.
• A debtor can discharge more debt types, including "property equalizing payments" or nonsupport obligations arising from a marital property settlement agreement.
• The court will shorten the commitment period if the debtor fully pays all unsecured creditors.

Find out more in Chapter 13 Bankruptcy for Small Business Owners.

Need More Bankruptcy Help?

Did you know Nolo has been making the law easy for over fifty years? It's true—and we want to make sure you find what you need. Below you'll find more articles explaining how bankruptcy works. And don't forget that our bankruptcy homepage is the best place to start if you have other questions!

We wholeheartedly encourage research and learning, but online articles can't address all bankruptcy issues or the facts of your case. The best way to protect your assets in bankruptcy is by hiring a local bankruptcy lawyer.

Updated April 14, 2022