Also known as the Small Business Reorganization Act of 2019, Chapter 11, Subchapter V bankruptcy is a new process that was developed to help small businesses more effectively navigate through financial reorganization. While there's a lot to understand about this new process, one of the questions our attorneys hear most often is, "What's the difference in Traditional Chapter 11 vs. Subchapter V bankruptcy?"
In this article, we're going to break down:
Chapter 11 bankruptcy is often known as the "reorganization bankruptcy." It was structured to give businesses the opportunity to reorganize, reduce, or eliminate debt in the hope that they will regain profitability.
However, many businesses filing for Chapter 11 bankruptcy were small businesses, and the complexity and high costs of the process, few were able to reorganize successfully. While some efforts were made to adjust the Bankruptcy Code, the "small business debtor" continued to struggle to reorganize under Chapter 11, prior to the Small Business Reorganization Act of 2019.
In the discussion of Chapter 11 vs. Subchapter V Bankruptcy, it's important to understand why Congress passed Subchapter V. The two primary goals were:
When looking at traditional Chapter 11 vs. Subchapter V Bankruptcy, the new Subchapter V met both goals, as most of the changes either reduced creditor involvement or minimized the overall fees and costs associated with Chapter 11 reorganization bankruptcy.
As mentioned, many of the changes that Subchapter V introduced worked to limit creditor involvement or reduce process-associated costs. Some of these key differences between a traditional Chapter 11 bankruptcy and a Chapter 11, Subchapter V bankruptcy include:
Subchapter V eliminates the Committee of Creditors that is often required in a Chapter 11 bankruptcy. This not only works to eliminate superfluous creditor involvement, but it also helps reduce the cost of Chapter 11 bankruptcy for small businesses. The Committee of Creditors incurs significant professional fees that a small business would be responsible for paying. Without the Committee, the process moves along more quickly and at a significantly reduced cost to the business.
In a traditional Chapter 11 bankruptcy, the business is required to file a very detailed Disclosure Statement, which includes owner/shareholder information, along with the business's plan for reorganization. The Subchapter V process does not require this document, helping to reduce creditor involvement and interest as well as providing protection for a business owner regarding other investments or personal information. Further, it helps minimize overall costs for the small business debtor, since it reduces the attorney fees associated with such documents.
It's important to note that while a Disclosure Statement isn't required under Subchapter V, the small business is still required to provide certain information that might usually be in the Disclosure Statement, for example:
Under Subchapter V, creditors cannot file competing reorganization plans, which helps move the reorganization process along. And, given that in most small business cases, creditors have little interest in providing unique reorganization plans, or if they do, they would propose a plan the business owners would never accept. This essentially removes an unnecessary step in an already long process.
The traditional Chapter 11 bankruptcy process includes an "Absolute Priority Rule."
This rule essentially requires that all senior class creditors must be paid in full before other classes of creditors and equity holders can receive any money or property. This rule establishes a line of priority where nonconsenting creditors are usually paid in full, if the equity holders want to retain their equity and rights to future profits.
Subchapter V eliminates this rule, which means that the small business owner retains 100% of their equity even when the reorganization plan does not pay creditors in full.
Traditional Chapter 11 bankruptcies require that creditors confirm the proposed reorganization plan. Under Subchapter V, a reorganization plan can be confirmed without a consenting creditor. What's more, Subchapter V eliminates the need for creditors to vote on the confirmation of the plan. Whether creditors agree or disagree, the court may approve the reorganization plan. Again, this moves the bankruptcy timeline along swiftly and reduces the involvement of the creditor in the reorganization process.
This is another protection that was delivered specifically to protect small business owners. In a traditional Chapter 11 bankruptcy, the business may not modify secured loans, even if the claim is secured by the principal residence of the business owner.
Under Subchapter V, if a business owner used a house (principal residence) as security for a loan that funded the small business, the business's reorganization plan may modify the loan.
In Chapter 11, a trustee is not automatically appointed over the business, like in Chapter 7 cases. Moreover, in a traditional Chapter 11 bankruptcy, a trustee is only appointed if there is cause — usually in the event of gross misconduct or fraud. Under Subchapter V, a standing trustee is automatically appointed, but the business still retains control over all assets and operations.
More specifically, under Subchapter V, the trustee does not control or override the owner but instead works to assist the court or the business’s attorney with items that help the small business bankruptcy stay on track. They may do things like account for property, review a company's model or financial condition, or report misconduct. In general, the trustee is there to facilitate a smooth process. Again, this is done in an attempt to make reorganization more feasible for small businesses.
If your business is considering bankruptcy, or if you're an accountant looking into options for a client, Subchapter V bankruptcy can be a powerful option that many don't know enough about. It can provide the same benefits of a traditional Chapter 11 bankruptcy — the chance for a business to reorganize its finances and become profitable again — at a significantly reduced cost and shortened timeline. Wondering if the business you have in mind qualifies?
Requirements for a Subchapter V bankruptcy:
The Lane Law Firm has worked with many clients who have fallen well within these requirements, making it a useful option for many American businesses still working to get back on their feet after the global pandemic.
If you're new to the idea of a Chapter 11, Subchapter V bankruptcy, or if you're still not sure which bankruptcy option is best for your business, it's always best to talk to an experienced attorney. The business bankruptcy and business debt relief attorneys at The Lane Law Firm are here to help.