Quick overview of Chapter 11 Sub Chapter V for Small Businesses

Quick overview of Chapter 11 Sub Chapter V for Small Businesses

Chapter 11 bankruptcy is commonly known as a “reorganization” bankruptcy. It’s a tool that any individual that meets the requirements, or business, no matter what type of organization it is, can use if they are having trouble meeting their debt obligations.

While individuals can use Chapter 11 bankruptcy, it’s typically used by corporate entities that want to reorganize and continue operating afterward, rather than liquidating their assets and shutting down. 

Chapter 11 bankruptcy can be overly expensive and cumbersome, though, which provides challenges to small business owners. A few years ago, Congress passed a new bill that streamlines the Chapter 11 bankruptcy process, making it more affordable in the process.

Below, we’ll give a quick overview of Chapter 11 Sub Chapter V Bankruptcy for small businesses.

Types of business bankruptcy

There are four types of business bankruptcy, each of which is designed for a different purpose.

The most common type is Chapter 11, as it allows businesses to continue operating after the bankruptcy proceedings. Chapter 7 bankruptcy, by contrast, is a full liquidation and will result in the business immediately dissolving upon the bankruptcy filing.

Chapter 13 bankruptcy is similar to Chapter 11 in many ways, though it’s only a fit really for certain sole proprietors. Chapter 12 bankruptcy is one option that small fishing and farming operations have. It provides a framework for restructuring that family businesses can use so they don’t have to liquidate.

Chapter 11 for business

The reason why Chapter 11 is so popular for businesses is that it allows them to continue operating after the bankruptcy restructuring. Through the process, business owners will enter into repayment plans with their creditors so that they can pay them back over time — as opposed to the previous repayment arrangement.

The restructuring plan is created and then presented to the court, which must approve it before it goes into practice. The creditors will be part of the process as well.

Secured and unsecured debts in Chapter 11

During the Chapter 11 bankruptcy proceedings, most debtors enjoy a moratorium on repayment of general unsecured debts that will last anywhere from about six to 12 months. 

In the same period, though, debtors may still need to pay their secured debts, if the services, goods and/or property is needed to continue operating the business.

The Chapter 11 debtor in possession

The debtor in possession (DIP) is a term that refers to the debtor who will be the one to operate the business after the Chapter 11 bankruptcy petition is filed. The person is a fiduciary and basically has the powers and rights of a trustee in the bankruptcy proceedings.

The DIP can hire outside professionals such as accountants, appraisers and attorneys, as long as the court approves.

Subchapter 5 bankruptcy

Subchapter 5 bankruptcy is made available to certain small businesses that need to file bankruptcy. There are certain limits that apply for business owners to qualify, though.

Non-contingent debt limit

To qualify for Subchapter 5 bankruptcy, debtors must engage in commercial activity and have debt that totals less than $7.5 million total — both unsecured and secured combined.

In addition, at least half of that non-contingent debt must come from activities related to the business. When filing, the debtor has to specify that they want to file under Subchapter 5.

The Small Business Reorganization Act

The Small Business Reorganization Act of 2019 was enacted in August 2019, and became effective in February 2020. The original debt limit was set at $2.75 million, though that was increased to $7.5 million temporarily after the outbreak of the COVID-19 pandemic.

That $7.5 million limit is effective for any Subchapter 5 bankruptcy filed between March 27, 2022, and June 21, 2024. After that date, the limit will revert to the original $2.75 million, unless Congress acts to extend and/or change the limit.

Small business debtors

Subchapter 5 is available only to small business debtors. These organizations are determined based on the size of their debt, not the size of the company itself.

Protection for creditors

The debtor will come up with a repayment plan that will be presented to each class of creditors through the court. Assuming the plan meets all the requirements of the bankruptcy court, the plan will be approved if at least half of the creditors in the class approves it.

Equity security holders

Unlike typical Chapter 11 bankruptcy, Subchapter 5 allows all equity security holders to retain interests they have in a debtor over the objection of non-consenting creditors, and they don’t have to pay all other claims that are higher priority in full.

Subchapter V for individuals

Individuals can also qualify for Subchapter V, just as they can through traditional Chapter 11 bankruptcy. They must meet the same debt limits as outlined above, and must be engaged in business activities.

Single asset real estate debtor

People whose primary business activity is owning a single asset real estate is typically excluded from Subchapter V. There are some exceptions to this rule, including if a debtor’s multiple parcels of property are not considered a single property or project.

A bankruptcy attorney can help

While Subchapter V provides a streamlined approach to Chapter 11 bankruptcy, it’s still a complex and complicated process. Making a mistake can be extremely costly for small business owners.

That’s why it’s always important to hire an experienced bankruptcy attorney who can help guide you through the process. The professionals at Babi Legal have years of experience in business bankruptcy cases, and can help you get through the process in the best situation possible.

Bankruptcy court and the U.S. Trustee or Bankruptcy Administrator

Once a bankruptcy case is filed, a U.S. trustee or bankruptcy administrator is assigned to monitor the case, and all actions that are taken by the parties involved. 

In North Carolina and Alabama, a bankruptcy administrator is the person who will oversee all bankruptcy cases. In every other state, a U.S. bankruptcy trustee will be assigned to monitor bankruptcy cases.

Creditors’ committees

A creditors’ committee is a group that represents all creditors in bankruptcy proceedings. This committee is given broad responsibilities and rights, which includes coming up with a reorganization plan for companies that file bankruptcy, and ultimately deciding whether liquidation would be the best path forward.

Appointment of a case trustee according to the bankruptcy code

The U.S. trustee will appoint a bankruptcy case trustee, after consulting with all parties who have an interest in the case. Once selected, this case trustee must be approved by the bankruptcy court.

The plan of reorganization

The plan of reorganization is a comprehensive and complex document that will be prepared by a business debtor that will detail their plans for how they will repay their creditors over time, and how they will operate once the bankruptcy proceeding ends.

It’ll categorize creditor claims into different classes and describe how each class will be treated. Creditors will receive the plan and vote on it to approve it. Then, the bankruptcy court must give final approval.

Acceptance of the plan of reorganization

Each creditor class must vote on the reorganization plan. Under Subchapter V, at least half of the creditors in each class must approve the plan of reorganization for it to be approved. If not, the bankruptcy court will chime in on the process.

Post confirmation modification of the plan

After the plan is confirmed, it’s still possible to modify it, as long as the details of the modification meet certain requirements under federal bankruptcy code. The court also must determine that there are circumstances that warrant the original plan to be modified.

Post confirmation administration

A court order will initiate the post-confirmation administration of a reorganization plan. Some legal actions will be taken by a creditors’ committee or bankruptcy trustee if the debtor objects to certain claims or if they need to recover funds.