By: Zach Javorsky
Small businesses hit hard by the pandemic relied on government stimulus to stay alive. Many small businesses are considering their next move now that crucial stimulus is running out. For a small business with overdue debt, its creditors are likely calling, asking when they will be paid or, worse, making threats about collections and repossessions. As a result, small business owners may ask themselves what they can do to move forward.
One option that might not come to mind is bankruptcy. Historically, bankruptcy was inaccessible for small businesses due to complex regulations, costs, and time. That all changed in February 2020, when the Small Business Reorganization Act of 2019 became law, adding Subchapter V to the Bankruptcy Code. Today, Subchapter V may provide a struggling small business with a lifeline and a path forward.
This blog aims to educate small business owners about Subchapter V, how it differs from other types of bankruptcy, and what to expect during the bankruptcy process.
| Bankruptcy Jargon | |
| Term | Definition |
| Debtor | A business filing bankruptcy |
| Creditor | A person/business to whom the debtor owes money |
| Plan | A document the debtor files that shows how it plans to repay its debts |
| Confirmation | When the judge approves the plan and determines it is feasible and meets all legal requirements |
the historical options – chapter 7 and chapter 11
Traditionally, a small business considering bankruptcy had two options: liquidate under Chapter 7 or reorganize under Chapter 11. In a Chapter 7 liquidation, the business closes, its assets are sold, and creditors split the sale proceeds. In Chapter 11, a business reorganizes, staying open, but its debt is restructured. In Chapter 11, the business’s creditors must approve any reorganization plan.
Historically, Chapter 11 was too costly and time-consuming for small businesses, forcing them to close and liquidate under Chapter 7. To learn more about Chapters 7 and 11, Click Here.
a new path forward – subchapter v
Subchapter V is a bankruptcy designed for a small business. Essentially, in Subchapter V, creditors are forced to accept three- or five-year repayment plans. These repayment plans can take debts that are due immediately and spread them throughout the plan. In practice, this means a bankruptcy court will protect the small business as it repays its debts, and creditors will have to stop any attempts to collect debts from the small business.
A small business must owe its creditors less than 2.7 million dollars to qualify for Subchapter V. During the pandemic, Congress raised this limit to 7.5 million dollars through March 2022; it is unknown if this raised limit will continue. Additionally, to be eligible for Subchapter V, a small business must make enough revenue to pay its debts through the repayment plan.
If a small business owes less than 2.7 million dollars, it qualifies for Subchapter V and benefits from the subchapter’s streamlined approach. Subchapter V differs from Chapter 11 in several key ways:
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- It is cheaper. Fees are typically less because a small business does not pay U.S. Trustee fees, creditor committees fees, and administrative fees can be spread over the plan’s length.
- A small business owner can retain its equity.
- It allows the business to stay open while repaying its creditors with its disposable income.
- Creditors do not have to approve the plan if it’s shown the creditors will receive more than they would in a Chapter 7 liquidation.
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Finally, reorganizing is quicker under Subchapter V than Chapter 11. In Subchapter V, a business must file a plan within 90 days, and court approval will come after that. On average, from petition to confirmation of a Subchapter V plan takes 224 days.
the process
A small business considering filing a Subchapter V bankruptcy will need to consult with a bankruptcy attorney. This attorney will answer specific questions regarding the circumstances the business is facing. This blog post will provide an overview of what a small business owner can expect during the process, which has three phases – pre-filing, post-filing, and post-confirmation.
In the pre-filing phase, a business owner will work with their attorney to gather information about the business’s finances. This work includes gathering documents, including federal and state tax returns, invoices, payrolls, a list of creditors, contracts, leases, certificates of incorporation, bylaws, partnership agreements, and a list of the business’s owners. Once the debtor gathers this information, the business’s attorney will file the necessary forms, known as a petition, with a bankruptcy court. Once the debtor’s lawyer files the petition, the automatic stay goes into effect, stopping all creditors’ communications and threats.
The next phase is post-filing and is the most critical. Soon after the business files its petition, the court will appoint a Subchapter V Trustee. This Trustee, often an attorney, will work with the business and its creditors to create a repayment plan. The Subchapter V Trustee will also make statements to the court regarding things such as the value of property, amounts of debt, and whether the plan is ready for confirmation. The Subchapter V Trustee’s recommendations are impactful, and the judge may rely upon them. Once the debtor drafts a feasible repayment plan, meaning that the court believes the business can make the required payments and the creditors get more than they would in Chapter 7, the court will confirm the plan.
Once the plan is confirmed, the business enters the post-confirmation phase. This is when the business has to start making its required payments. If it stops making the payments, the creditors can ask the court for relief. If the business’s circumstances change, leaving it unable to make the required payments, it can ask the court to modify the plan. If the business makes all the required payments, the court will discharge its debts, and the business will leave bankruptcy.
conclusion
Historically, bankruptcy was not an option for a struggling small business. Now, Subchapter V is a powerful tool that gives a small business a path forward. Readers can find additional information below.
This post has been reproduced with the author’s permission. It was originally authored on February 10, 2022, and can be found here.
Zach Javorsky is a recent graduate of Penn State Dickinson Law. He is from Pittsburgh, Pennsylvania, and is a graduate of Allegheny College. Zach plans to become a corporate attorney after graduation. He is a member of the Dickinson Law Review Editorial Board.
Sources
11 U.S.C §1181, et seq. [Subchapter V]
11 U.S.C §701, et seq. [Chapter 7]
11 U.S.C. §1101, et seq. [Chapter 11]
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Photo Sources
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