Chapter 11 versus Sub Chapter V

| May 5, 2021 | Bankruptcy

Once again, I am thinking about how the pandemic has affected so many of us financially.  Some of us are lucky enough to have a job and others are struggling to find work to pay the bills.  With many industries hit hard by the shrinking economy, small businesses such as movie theaters and non-profit organizations have been hit pretty hard.

Even before the pandemic, Congress recognized that small businesses were have a difficult time in the economy and in February before the word “pandemic” crept into our lexicon, and enacted Sub Chapter V of the bankruptcy code.  Sub-Chapter V is a subset of Chapter 11, which is reorganization for individuals or businesses.  Small businesses can choose from many of the different bankruptcy chapters depending on their set up.  Any business can file for chapter 7 if you want to liquidate and close your business by selling off assets to be distributed to your creditors.  Or if you are a sole proprietor, you can file a chapter 13 case to reorganize your debts if you have debts that are under the debt limits.  Currently, if your secured debts (liens) are not more than $1,184,200 and your unsecured debts are not more than $394,725, then you can file a chapter 13 as a sole proprietor or as an individual.

If you own a business as a sole proprietor and have debts that are greater than this, then you can’t file a chapter 13. Or if your business is incorporated (Inc., LLC, PLLC) then you can’t file a chapter 13.  Chapter 13 is only for individuals but if those individuals are sole proprietors then you can also file chapter 13.

If you have debts higher than those allowed in chapter 13 or your business is incorporated, then chapter 11 is your option.  If you are a small business, whether a sole proprietor or incorporated, you can file chapter 11, sub-chapter V if your aggregate debt is not more than $7,500,000  (11 U.S.C. §1182). If your debt is more than this amount, or you are an individual with debts higher than the chapter 13 limit, you can file chapter 11 but not sub-chapter V.

Sub-chapter V has been touted as a big help to small business because it makes the bankruptcy process less expensive and makes it go faster.  Some of the cost and time saving things are that you don’t have to file a disclosure statement, no absolute priority rule, no unsecured creditors committee, and no requirement of having an “impaired class” (creditor who is not being paid in full).

But is Sub-chapter V really less expensive than regular chapter 11?  The filing fees are the same for chapter 11 and sub-chapter V– $1,713.  The U.S. Trustee quarterly fees are based on the disbursements of the creditor in a chapter 11 whereas the sub-chapter V case has its own appointed trustee and the fees vary but can be $4,000.  Attorney’s fees may be a little less for the Sub-chapter V because of the items mentioned the previous paragraph, but can still be substantial.  Sub-chapter V cases typically contemplate a 5-year plan that is overseen by appointed trustee. And discharge does not come until substantial confirmation has occurred, which is usually a few years into the plan.  In chapter 11, discharge comes after the plan has been confirmed and payments have been started.   Each business owner must weigh the pro’s and con’s of filing Sub-chapter V.

Recently I had a case where a person owned a business and the pandemic wreaked havoc on his income from that business.  As creditors were pressing hard on her, she weighed the options of filing the various bankruptcy chapters.  Chapter 7 would not allow her to keep her house so that was not going to be a good option.  She is a sole proprietor and wanted to file a chapter 13 case but her secured debt was a few hundred thousand too large for the chapter 13 limits.

We started looking at Sub-chapter V for her and the expenses of sub-chapter V started to add up: filing fee, Sub-chapter V Trustee fee, attorney’s fees, etc.  My client started talking to her creditors again and decided to give back some of her equipment that was costing her a great deal of monthly payments to the creditors plus maintenance fees for upkeep on the equipment.  She reduced the size of her business and allowed some of the equipment to be repossessed.  While repossession will not help her credit, filing bankruptcy wouldn’t help her credit either.  She ended up with a smaller, more affordable business that appears to be adapting in this economy.

Every business owner, whether it is a sole proprietor or large corporation, has options in this economy.  They can downsize and try to continue as a smaller more focused business or they can file bankruptcy and prevent the creditors from repossessing, foreclosing and getting a judgment against the debtor.