How Chapter 11 Bankruptcy Can Help Small Businesses During Coronavirus Outbreak

Find out how Chapter 11, Subdivision V can help small businesses reorganize debt and stay in business during the coronavirus (COVID-19) outbreak.

Chapter 11 has typically been too cost-prohibitive for all but the largest companies—even with rules in place geared to make it more accessible to small businesses. But that’s not the case any longer. The changes put in place by the CARES Act in the wake of the coronavirus outbreak, coupled with the Small Business Reorganization Act of 2019, have breathed new life into a small business Chapter 11, paving the way for income-generating small businesses to emerge profitable after COVID-19.

What Is a Chapter 11 Bankruptcy For Small Businesses?

When customers stop coming in due to an unforeseen event—such as the coronavirus outbreak—some businesses can weather the downturn with leeway from creditors. Under Chapter 11, a business negotiates more favorable debt terms and balances with creditors while keeping the assets the business needs to remain operational. The agreements make up a proposed plan of reorganization that the creditors vote on. If enough votes are received, the court confirms (approves) it.

While seemingly straightforward, many small businesses find Chapter 11 challenging because of the creditor committee requirement. Made up of the seven largest unsecured creditors, it’s formed to ensure that the debtor is running the business properly. Some of the committee’s tasks include investigating both the debtor and the company, and assisting with formulating the reorganization plan—sometimes with the help of attorneys and other professionals at the debtor’s cost. Many believe that the creditor committee requirement is the reason it can take up to 18 months to put a plan in place.

How New Chapter 11, Sub V Helps Small Businesses Affected by COVID-19

In August 2020, the Small Business Reorganization Act of 2019 drastically changed the bankruptcy landscape for small business owners by creating Chapter 11, Subdivision V. The same Chapter 11 principles apply. However, the process looks and feels more like a Chapter 13 bankruptcy, making it a more user-friendly, cost-effective option for small business owners.

Some of the key Chapter 11, Subdivision V benefits a small business debtor will find helpful include:.

  1. It’s faster. A small business debtor will submit a plan within 90 days of filing, with some exceptions.
  2. The debtor retains control. The court doesn’t appoint a creditor oversight committee. Much like a Chapter 13 matter, a standing bankruptcy trustee oversees the case and ensures the debtor makes plan payments while the debtor remains in control as a “debtor in possession.”
  3. A judge approves the plan. The plan doesn’t have to receive a particular number of votes in a creditor class. Instead, the judge can confirm a fair and equitable plan that commits the debtor’s disposable income for three to five years.

Does Your Small Business Qualify for Chapter 11, Sub V?

More small businesses will qualify under the CARES Act. On March 27, 2020, the Act opened the chapter to even more small businesses by redefining a “small business debtor” from an operating business with $2,725,625 in non-contingent liquidated secured and unsecured debts, to an operating business with up to $7,500,000 in qualifying debt. The increased debt ceiling is available for one year, with qualifying limits reverting to $2,725,625 on March 26, 2021.

What a Small Business Debtor Can Expect Under Chapter 11, Sub V

A small business must provide extensive financial disclosures and submit to more meetings when filing under the new law—something most small business debtors will happily do to get through the process quicker. Here’s what the debtor can expect (11 U.S.C. § 1116):

  • File documents. The debtor will start the case by filing a voluntary petition and the most recent balance sheet, statement of operations, cash-flow statement, and Federal income tax return, or a statement made under penalty of perjury that none were prepared or filed. The debtor must also file schedules and statements of financial affairs on time.
  • Attend three meetings. Senior management and the small business attorney must attend an initial debtor interview, a scheduling conference, and a 341 meeting of creditors.
  • File post-petition financial and other reports. The debtor must file periodic reports detailing profitability; projected cash receipts and disbursements; comparison of actual receipts and disbursements to earlier projections and statements concerning compliance with bankruptcy rules; tax requirements; and other Bankruptcy Code § 308 requirements; plus any other reports required by the Federal Rules of Bankruptcy Procedure and local court rules.
  • Maintain insurance. The debtor must prove liability or another insurance customary and appropriate to the industry is in place.
  • File and pay taxes. The debtor must file timely returns and pay all taxes entitled to administrative expense priority.
  • Allow inspections. Provide access to inspect the debtor’s business premises, books, and records on reasonable notice.

The debtor will also need to draft a confirmable plan and stay current on plan payments for three to five years. Learn about filing for bankruptcy during the coronavirus outbreak.

Creditors Benefit From Chapter 11, Sub V

Without a creditor committee in place, undoubtedly, a creditor will need to be more watchful of its rights. Even so, benefits exist for creditors, too.

The extensive financial disclosures required of a debtor early in the case help a creditor assess a claim fast. And, lawmakers almost ensured creditors that they’d be able to keep more “preference payments” received during the 90 days before the filing (money the creditor would typically have to return to the trustee for division). It’s all comes down to the location (venue) of the preference lawsuit.

Before the changes, a suit up to $13,650 had to be filed where the defendant creditor resided—not in the bankruptcy filing court. The law increased the threshold amount to $25,000. Given the costs associated with filing a lawsuit in another court—likely another state, even—it’s almost guaranteed that creditors won’t have to give up payments under $25,000. It would simply be too costly to risk filing a preference payment action.

Other Useful Bankruptcy Chapters During the Coronavirus Outbreak

Small businesses filing for Chapter 11, Subdivision V must be represented by legal counsel, so the first step is interviewing prospective bankruptcy lawyers. You’ll likely want an attorney with Chapter 11 experience (however, a lawyer with substantial Chapter 13 experience might be cheaper). Plus, your local court might require it. Be prepared to discuss both your business and personal finances—a seasoned attorney will use the information to advise you of all available options.

If you want a comprehensive small business overview, be sure to find out how Chapter 7 can help, but also why most small businesses won’t file for Chapter 7 bankruptcy.

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