Subchapter V was added to Chapter 11 of the Bankruptcy Code in the United States, thus helping small business debtors. The Small Business Reorganization Act (SBRA) went into effect in February 2020 and makes reorganization for bankruptcy of small businesses more streamlined and accessible, but it also brings new challenges previously unknown.
If you are looking for alternatives to solve your financial situation, you should know that bankruptcy is an option. It looks scary, but don’t worry, you are not alone. If you are considering this alternative, you must have first-rate advice. At Ortiz & Ortiz we have a team of expert bankruptcy attorneys who can advise you.
Our specialists can help you decide which type of bankruptcy is best for you. Our New York asset protection attorney will guide you through the entire process, and will make sure to safeguard your assets.
What is the Subchapter V of Chapter 11 Bankruptcy?
Chapter 11 bankruptcy allows companies the chance to restructure and reorganize their debt over a period of three to five years. During this time, they can continue to operate. However, a Chapter 11 filing is often too complex and expensive for many small business owners.
Subchapter V was added to Chapter 11 of the US Bankruptcy Code to make reorganization bankruptcies more accessible to small businesses. This new legal section offers small businesses a simplified process to pay their debts.
Businesses that file a Subchapter V application can compel creditors to accept court-approved payment plans for three to five years. They can also use the plan to get rid of some of their unsecured debt.
Note: Unsecured debts are those for which no collateral has been offered, like most credit card debt. A mortgage or car loan are secured debts because the creditor can seize your home or car if you do not pay. If you do not know what type of debt you have, we recommend you read our article on how to know find out all your debts in the United States.
What are the benefits of Subchapter V bankruptcy?
While there are many aspects of the new Subchapter V that are beneficial to an individual debtor, the most significant is the removal of the absolute priority rule.
Filing for small business bankruptcy under Chapter 11, Subchapter V, also offers you a number of other benefits:
- Ongoing Business Operations: You will continue to own and manage your business as long as you adhere to the approved payment plan. Additionally, you will have to pay your unsecured creditors all of your disposable income while the plan is in effect.
- No Creditors Approval: If the bankruptcy court deems it fair and appropriate, you can confirm your reorganization plan without the approval of your creditors. This is unlike a traditional Chapter 11 plan, where the payment plan must be approved by creditors.
- Only your company can present a plan: You have a great advantage. In other Chapter 11 cases, your creditors can file a plan on your behalf. But in Subchapter V, only your company can send one to court.
- No Disclosure Needed: In Chapter 11 cases, you usually must file a detailed disclosure statement with the court. The statement provides a breakdown of your business and whether you can repay your creditors. In a Subchapter V case, it is not necessary to file a statement.
- Special Trustee: While in process, you will continue to operate your business, but a trustee will be appointed to oversee your operations. The trustee will also make recommendations to the court regarding confirmation of the reorganization plan.
- Expenses paid in installments: In a traditional Chapter 11 case, you would have to pay all administrative expenses on the day the plan goes into effect. Subchapter V allows you to pay your expenses in installments for the life of the plan.
Other advantages of Subchapter V for individual debtors
- Exclusivity plan: As we saw earlier, only the debtor can file a plan in Subchapter V. Therefore, there is no exclusivity period that expires after 120 days as a normal Chapter 11 case, or 180 days in the case of a traditional small business.
- Reduced Administrative Expenses: Good news for anyone filing for bankruptcy. As we will review later in the uncertainties presented by this new Subchapter, there are no trustee fees. This reduces the administrative expenses of the debtor. Also, unless the bankruptcy court orders otherwise, a committee of creditors cannot be appointed in a Subchapter V case. That means that the individual debtor will not have to pay the expenses of the committee.
- Modification of certain mortgages on principal dwellings: The restrictions on the modification of a mortgage on the residence of the debtor were modified by Subchapter V. This unique provision in Subchapter V will allow the modification of the mortgage if the individual debtor had used the majority of the value in the debtor’s house to finance commercial operations.
- There is no limitation on the amount of auto loans: This is a very common question when we talk about bankruptcy. Subchapter V does not incorporate the requirements found, for example, in Chapter 13 bankruptcy. It requires the debtor to pay the full amount of a personal motor vehicle loan incurred within 910 days prior to filing for bankruptcy. This in lieu of the value of that guarantee.
This means that the debtor in a Subchapter V case may force the lender of the vehicle to accept payments equal to the value of the vehicle. This even if the value is less than the total amount of the vehicle loan.
Note: We have multiple articles on our website that will clarify your doubts regarding the consequences of bankruptcy in the United States. For example, here you can review whether you can buy a car after bankruptcy, and how to take out a personal loan after bankruptcy.
- Limited post-confirmation plan modifications: Only the debtor can modify a plan after confirmation in Subchapter V. This is a clear advantage because it does not allow the trustee or creditors to seek a payment plan modification. Not to increase the amount of payments or extend or reduce the payment time. As it would be in a normal individual Chapter 11 case.
Limiting the plan modification to the debtor only excludes these parties from the threat of increasing plan payments when the debtor’s operations turn out to be more favorable than projected when the plan was confirmed.
On the other hand, if the debtor’s projections were too generous, the debtor has the power to seek modifications to reduce plan payments in a Subchapter V case.
- Possibility of early discharge: Subchapter V allows a debtor to obtain discharge on the effective date of the plan. This is provided that the plan is a consensual plan approved under section 1191. In an expense reduction plan approved under said section, the debtor’s discharge does not occur until the plan’s payments are completed.
Who can file for Subchapter V bankruptcy?
To qualify for Subchapter V of Chapter 11 bankruptcy, businesses must:
- Carry out commercial activities.
- Have a debt that does not exceed USD $ 2.75 million.
- Also, at least 50% of corporate debt must come from business activities.
- Businesses whose primary business is to own and manage a single property are not eligible.
In response to the COVID-19 pandemic, the Coronavirus Economic Assistance and Security Act (“CARES”) temporarily amended the SBRA to increase the debt eligibility limit for Subchapter V to $ 7.5 million for a period of one year. It is currently scheduled to expire on March 27 2021. This increase in debt eligibility limits allows larger companies to take advantage of SBRA’s fast and efficient provisions during the current economic crisis.
How to File for Subchapter V Bankruptcy?
An eligible debtor must affirmatively choose Subchapter V in the petition or the case will proceed as a traditional chapter 11. Upon filing the application, the debtor must submit a balance sheet, statement of operations, cash flow statement, and tax returns.
Disadvantages of Subchapter V of Chapter 11
Although Subchapter V has many advantages for individual debtors, there are certain disadvantages that a person should consider before embarking on this path. Read on, here is what to consider:
- Eligibility Limitations: As mentioned above, there are debt limits for individuals seeking to take advantage of Subchapter V. For example, no less than 50 percent of the debts in question must have arisen from the debtor’s business or commercial activities. Furthermore, the debtor must be “engaged in commercial or business activities”.
- Debtor is responsible for Subchapter V trustee’s fees: Each Subchapter V case requires the appointment of a trustee. This does not require the debtor to hand over operations to the trustee. The Subchapter V trustee is primarily tasked with assisting the debtor in proposing and confirming a plan, as well as distributions under the plan. When the debtor has proposed a consensual plan, the trustee may be removed once the plan is substantially consummated, which generally occurs on or near the effective date of the plan when payments to creditors have commenced. In a non-consensual plan, the trustee is responsible for making distributions from the plan to creditors until the plan is complete. At that time, the trustee will submit a final accounting and final report.
- Plan Deadlines and Other Required Procedures: A Subchapter V debtor has only 90 days to file a plan. This is a stricter deadline than a typical Chapter 11. In addition, the court will hold a status conference within 60 days of the order for relief. And at least two weeks before that status conference, the debtor must file a notice with the court explaining the debtor’s progress. With this, the debtor will be confirming a consensual plan and will provide any other information that the court may require. This cuts the time requirement to file a plan in a small business case in half as provided in section 1121. A debtor can get an extension of the plan filing deadline. However, the grounds for such an extension are limited by statute to circumstances beyond the debtor’s control.
- Remedies for non-compliance with the plan: Subchapter V requires that the payment plan provide adequate remedies to protect creditors. This in case the planned payments are not made. The normal requirements of Chapter 11 are simply that the plan be feasible under section 1129. That it does not require resources to protect creditors. The only way to avoid this requirement is to convince the court with certainty that the debtor will be able to make all the payments under the plan. Any payment plan based on projected disposable income is unlikely to have that certainty. The advantage this provision provides to creditors is that when a plan includes a remedy, the creditor will have good reason to force the debtor to pay. That is, to secure those remedies rather than the dismissal of the Chapter 11 case or the subsequent resubmission of a Chapter 11 case. It is also likely that the courts will not see further reorganization as an appropriate remedy, but instead force a liquidation to protect the interests of creditors.
Despite these burdens on debtors, it is clear that benefits for small businesses eligible under Subchapter V, in particular the removal of the absolute priority rule, will make it substantially easier for businesses to confirm Chapter 11 plans. This, coupled with higher debt limits under the CARES Act through March 2021, will likely increase the number of people eligible for the new Subchapter V and take advantage of it.
Protections for Creditors in Subchapter V of Chapter 11 Bankruptcy
Subchapter V made it easy for small businesses to file for reorganization bankruptcy, but creditors still have the following Chapter 11 benefits:
- The reorganization must offer creditors at least what they would have received if you had filed under Chapter 7.
- Secured creditors can still retain their rights to the property you pledge.
- Secured creditors can protect your collateral and seek relief from automatic stay.
- Creditors can use these rights to force you to treat them better under your reorganization plan.
Note: The most common types of bankruptcy in the United States are Chapter 7 bankruptcy and Chapter 13 bankruptcy. You can also review the differences between Chapter 7 and 13 bankruptcy.
The uncertainties of Subchapter V of Chapter 11 bankruptcy
With this new addition to bankruptcy law, there are several actors who must be prepared to handle the consequences of Subchapter V. On the one hand there are potential debtors, particularly small businesses that qualify for this option. In addition, here are other points to consider by other parties involved in the Subchapter V bankruptcy:
There are no incentives for a consensual payment plan
- Not only does the Subchapter V bankruptcy alternative not offer many incentives for creditors to agree to a repayment plan. It forces the creditors to accept the payment plan presented by the debtor and approved by the court.
- A consensual plan allows the debtor to obtain a discharge on the effective date of the plan, and also forces the trustee to terminate when the plan is substantially consummated.
- Even the debtor has an incentive for the plan to be challenged in order to stretch administrative expenses over the life of the plan. However, the ability to terminate the trustee on the effective date of the plan is likely to be sufficient incentive for the debtor to seek a consensual plan.
Trustee Fees under Subchapter V
It is not entirely clear how a trustee will be compensated under Subchapter V of Chapter 11 bankruptcy. There is still an ambiguity in the law that must be resolved.
Postponement of administrative claims
Business creditors who have experience dealing with debtors in Chapter 11 bankruptcy will need to get used to a few changes. You’re probably used to the fact that claims for administrative expenses are generally paid in full on the effective date of a plan.
However, as we mentioned earlier, a small business debtor in Subchapter V can propose a plan that extends payment of administrative expense claims. This extension can be extended during the term of a payment plan that ranges from 3 to 5 years. Debtors in Chapter 12 cases can similarly defer payment of administrative expense claims.
As a result of this new measure, business creditors may be less willing to offer favorable pre-petition credit terms to a small business debtor. And they may even require payment in advance or cash on delivery.
Chapter 11 bankruptcy
In this article we review Subchapter V of Chapter 11 bankruptcy. But in case you want to see the latter in detail, you should know the following:
- Rather, this type of bankruptcy is a financial reorganization of the business.
- While Chapter 11 bankruptcy can be used for individual situations, it is the most commonly used for businesses.
Chapter 11 bankruptcy gives debtors time to reorganize their debts and submit a proposed payment plan. During the bankruptcy and payment process, it is a court that helps the company restructure its finances and, while that happens, the firm remains open and operational.
Bankruptcy Lawyers for Subchapter V of Chapter 11
Filing for bankruptcy is not an easy decision to make. It must be conscientiously taken and handled all the necessary information. Especially if you are a small business or business owner, you already know how important it is to have specialists working with you.
Also, as you may have read in this article, Subchapter V of Chapter 11 is still very recent. It has some uncertainties, and it is still new to many. At Ortiz & Ortiz, our New York business lawyers have already handled these kinds of cases successfully.
Our New York bankruptcy attorneys and business specialists are ready to review your case and assist you in this process:
- They will advise you in the financial field.
- They will be able to conduct an assessment of your situation and analyze whether it is feasible to file for bankruptcy.
- They will guide you through each of the steps involved in filing for bankruptcy. And they will advise you, according to your income and level of debt, which bankruptcy chapter would best serve you.
- Our attorneys can accompany you and represent you at any time that is necessary.
For these and other services contact us today – our team is ready to advise you!