Updated October 9, 2020
For a small business in financial distress, bankruptcy might be the only viable option. If you need help keeping your company afloat, restructuring debt under Chapter 11 or Chapter 13 (with limitations) might be the life preserver needed to stay in business.
By contrast, if your business is closing, a "straight" or "liquidation" bankruptcy might be the better option. For help, see Chapter 7 Bankruptcy for Small Businesses or learn about the differences between Chapter 7 and Chapter 11 bankruptcy.
Reorganization Benefits for Small Business Owners
Chapters 11 and 13 both allow debtors to propose a plan to restructure their finances, which in turn can help a company stay in business. If you qualify, a Chapter 11 or 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 that you can’t pay over the plan term (in Chapter 11 only).
Most small business owners, when possible, choose Chapter 13 over Chapter 11 (a business can’t file for Chapter 13—more below). By contrast, Chapter 11 can provide more flexibility, but it usually costs too much money and takes too much time to be a realistic option for small business owners.
Eligibility for Chapter 11 or Chapter 13 Bankruptcy
Virtually anyone can file for Chapter 11 bankruptcy, whereas many small businesses are ineligible to file for Chapter 13.
- Chapter 13 eligibility. Chapter 13 is available to individuals with regular income. If you operate your business as a sole proprietorship, you can take advantage of Chapter 13 by filing a petition in your name. Your business debts will be included in your plan. 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--sometimes it helps. Chapter 13 is also subject to debt limitations, which change periodically. As of April 2019, a filer's debt can't exceed $1,257,850 in secured debt and $419,275 in unsecured debt. (Learn more about eligibility for Chapter 13 bankruptcy.)
- 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.
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 through Chapter 11, Subdivision V can help lower costs for small businesses.
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 a Chapter 11, Subchapter V case.
- 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 usually appointed for gross mismanagement or fraud.
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, excluding obligations owed to insiders such as family members of the business owner. The current debt limit of $7,500,000 is effective until March 26, 2021, and will revert back to $2,725,625 or less thereafter (check the figures on the U.S. Courts Bankruptcy webpage).
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. However, sometimes a business owner only needs help with personal debts. In that case, an individual Chapter 13 filing could be beneficial.
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
Otherwise, Chapter 13 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, such as nonsupport obligations arising from a marital property settlement agreement.
- The court will shorten the commitment period if the debtor pays all unsecured creditors in full.
Find out more in Chapter 13 Bankruptcy for Small Business Owners.