Many small businesses are using a niche part of the Bankruptcy Act to discharge their debts amid the COVID-19 crisis, and bankruptcy experts are encouraging other ailing small businesses to consider the option instead of shutting down entirely.

About 1,000 small businesses have filed under the so-called Subchapter V, Small Business Debtor Reorganization, in 2020 according to statistics cited today in a session of the American Bankruptcy Institute’s Insolvency 2020 conference.

Part of the reason might be the enhancement to Subchapter V in the Coronavirus Aid, Relief, and Economic Security (CARES) Act. CARES temporarily raised the ceiling on a filer’s aggregate secured and unsecured non-contingent and liquidated debt to $7.5 million from $2.7 million. The higher debt limit is scheduled to end on March 27, 2021.

“[Subchapter V] is tailor-made for small businesses that can survive COVID and come out the other end,” said Deirdre O’Connor, a managing director at Epiq Global.

A Subchapter V filing has numerous advantages to a Chapter 11. First, in Chapter V, a creditors’ committee is not formed, and as a result, the debtor’s bankruptcy estate does not bear the costs of the committee’s professionals. A creditor’s committee has significant power in a Chapter 11 case and is adversarial to the secured creditors, which significantly impairs the reorganization process.

Second, the absolute priority” rule does not apply. So, a debtor may retain its equity interest even though unsecured creditors do not receive payment in full.  In a typical Chapter 11, the debtor cannot retain its equity unless (1) creditors vote in favor and (2) the equity security holder “adds value.” In many Chapter 11 cases, the owner loses its equity and ownership in the business.

The bankruptcy bar and the courts are expecting more such cases to be filed in 2020, as Paycheck Protection Program funds are exhausted. The U.S. courts have hired 250 new Subchapter V trustees.

Third, in a Subchapter V, the management of the small business can remain with the debtor.

And, fourth, Subchapter V gives the small business debtor flexibility to pay administrative claims over the life of the plan rather than in cash on the effective date of the bankruptcy.

The bankruptcy bar and the courts are expecting more such cases to be filed in 2020, as Paycheck Protection Program funds are exhausted. The U.S. courts have hired 250 new Subchapter V trustees.

In other bankruptcy trends, data by Reorg.com cited in the session showed that 2020 has been rife with Chapter 11 cases. The second quarter saw 138 cases and the third quarter, 133 cases. (The quarterly average since 2016 was 97 cases.)

The months of June and July saw 50-plus cases each, but filings slowed in August and September. However, October is looking much busier, according to Jessica Steinhagen, legal analyst at Reorg.

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One response to “Small Businesses Embracing Subchapter V Bankruptcies”

  1. Thank you for writing this article. I am a bankruptcy attorney in Chicago and I can tell you that small businesses need to be aware of this option. I have helped a number of small business owners save their businesses by using Chapter 11. Plain and simple, it works. Subchapter V can make what can be a burdensome process easier than ever before.

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