New Bankruptcy Law May Increase Small Business Filings

On Wednesday, February 19, 2020, the Small Business Reorganization Act of 2019 becomes effective, creating a new Subchapter V for small-business debtors (less than $2,725,625 in debt). The purpose of this act is to eliminate some of the costly elements of a business bankruptcy reorganization and streamline the procedures. It is anticipated that this new law will increase the number of small businesses who will take advantage of bankruptcy protection.

While the Bankruptcy Code already included special provisions for a “small business debtor,” Subchapter V has several new provisions which may prove advantageous to struggling businesses, but harmful to creditors. While the business will remain the debtor-in-possession, there will also be a trustee appointed similar to a Chapter 12 or 13 Trustee. The company will remain in charge of operations, but the trustee will oversee disbursements, assist with formulating a plan of reorganization, and participate generally in the bankruptcy process. The bankruptcy court must hold a status conference on how the case will proceed within 60 days of filing, and a plan—which can only be filed by the debtor company—must be filed within 90 days which should not be extended except in circumstances for “which the debtor should not justly be held accountable.” The plan must contain information similar to a disclosure statement—which is not required under Subchapter V, such as a brief history of the business operations, how much creditors would receive in a hypothetical liquidation of the company, and the debtor’s projection of its ability to make payments as proposed. The plan will last at least three years, but no more than five years, with all disposable income being paid to creditors through the plan.

The plan may be approved if it is feasible, does not unfairly discriminate, and is fair and equitable to non-consenting, impaired classes of creditors. A creditor may object to its treatment under the plan, but no longer is able to vote for or against a plan, and the bankruptcy court can confirm a plan without the debtor having to solicit votes. There will no longer be the need to gerrymander a small class of creditors who are nominally impaired to force other creditors into an undesirable plan. At the conclusion of the plan, a discharge will be granted for those debts addressed by the plan except for certain long term debts and those debts which are otherwise non-dischargeable. In addition to eliminating the voting process, a Subchapter V plan may modify a loan—like a home equity line of credit—obtained for business purposes which is secured by the principal residence of a debtor’s principal. The act has also eliminated the absolute priority rule which was a significant impediment to owners being able to retain equity in the bankrupt company without paying the creditors in full.

The new law could have an impact on many creditors. Small businesses which would have previously shut down operations may take advantage of the relaxed provisions of Subchapter V. Confirmation of plans over creditor dissent may prove easier, and debtors can cram lenders down on the value of residential collateral used for business loans. It should be a faster process that overall may reduce costs for creditors and provide greater chances of repayment due to the involvement of a trustee—with a vested interest—overseeing disbursements.

In the streamlined process under the new act, creditors can quickly have their rights impacted by a small business customer who seeks bankruptcy protection. No longer will a creditor be able to wait for its chance to vote. Instead, creditors must take affirmative steps to object to their treatment and protect their interests. If a vendor or customer of yours elects to take advantage of this new subchapter, you should contact a bankruptcy attorney quickly to protect your interests.