Premium Legal Services without the Boston premium
Small Business Bankruptcy in the time of COVID-19Bankruptcy
Posted in on March 30, 2020
The Small Business Reorganization Act of 2019 (SBRA) became effective February 2020, providing a more streamlined process for small businesses to reorganize through bankruptcy without the constraints of several features of Chapter 11 reorganization. The small business provision, known as Subchapter V of chapter 11 of the U.S. Bankruptcy Code, was enacted in August 2019 and became effective February 19, 2020. The timing appears fortuitous considering the economic impact of COVID-19 and its likely effect on businesses. In a sweeping increase to the provision, the Coronavirus Aid, Relief and Economic Security Act (the CARES Act), enacted March 27, 2020, increased the eligibility for businesses filing under subchapter V from $2,725,625 of maximum debt to $7.5 million in maximum debt. The debt limit will return to $2,725,625 after one year.
What is Subchapter V for Small Business Bankruptcy Reorganization?
When businesses are overwhelmed by debt but have sustainable income, Chapter 11 of the Bankruptcy Code provides a mechanism for reorganization of debts and continuation of operations. The costs for Chapter 11 add up, however, and there are several aspects that can make it difficult for a smaller struggling business to effectively reorganize. The new Subchapter 5 is aimed at local or mom and pop type businesses on a smaller scale than their national counterparts. The provision eliminates several time and cost consuming aspects of Chapter 11 while providing protection to creditors.
Subchapter V was initially designed for debtors (an entity or individual) engaged in business with a total debt, secured and unsecured, not exceeding $2,725,625. The debt does not include “contingent” or “unliquidated” debt, and at least 50% must have arisen from business matters. The CARE Act significantly increased the debt limit to $7,500,000. Single asset real estate businesses are excluded from Subchapter V. Additionally, debtors must affirmatively elect on their petition to proceed under Subchapter V.
What does this mean for your business or your role as a business creditor?
Chapter 11 is an effective procedure for distressed businesses to obtain relief, but it is riddled with administrative costs and detailed logistics. Subchapter V eliminates or modifies several of these roadblocks and makes it easier for small businesses to reorganize in Chapter 11. Several differences that Subchapter V offers from the standard Chapter 11 procedure are as follows:
- Mortgages of Residential Property with Funds for Business Purposes: Subchapter V is likely to have the biggest effect, when compared to Chapter 11, on lending relationships where debtors leveraged their home to fund their business. As long as the loan was obtained after purchase and funds were used in connection with business, the debtor may cram down or modify the mortgage claim by proposing a lower interest rate or extending maturity.
- Debtors can also have their plan confirmed without acceptance by an impaired class of unsecured creditors, thus doing away with the absolute priority rule for these small business filings.
- To offset these provisions that increase power of debtors, Subchapter V filings are typically quicker. Plans in Subchapter V must be filed within 90 days, unlike Chapter 11 cases that can take significantly longer.
- The debtor remains a debtor-in-possession as in Chapter 11, but a trustee is also appointed to facilitate reorganization and follow through of the plan. No United States Trustee fees are required, as they are in Chapter 11, but the locally appointed trustee shall be entitled to earn fees. The process itself is also streamlined, and the lengthy disclosure statement and confirmation plan may be merged into a single more comprehendible document.
- Subchapter V makes it easier for debtors to retain collateral after reorganization. Instead of requiring equity holders to provide “new value” to retain their equity interest without paying creditors in full, debtors in Subchapter V must distribute projected disposable income for at least three years from the date the first plan payment is due.
If you have any questions regarding small business assistance available due to COVID-19, contact our corporate and bankruptcy attorneys at Baker, Braverman & Barbadoro, P.C. and we can help navigate the best solutions for your business, whether based in loans, grants, workouts, or filing bankruptcy. Baker, Braverman & Barbadoro, P.C. – Kimberly Kroha, Esq.