In the unprecedented business and economic climate caused by the Covid-19 pandemic, recent legislation may provide a ray of hope for distressed small businesses. The Small Business Reorganization Act of 2019 (the “SBRA”), which became effective on February 19, 2020, introduced Subchapter V to Chapter 11 of the United States Bankruptcy Code. Subchapter V streamlines and makes Chapter 11 reorganizations less costly for small businesses – defined originally to include entities whose debts do not exceed $2,725,625. On March 27, 2020, as part of the Coronavirus Aid, Relief and Economic Security Act, Congress temporarily increased the eligibility threshold to $7.5 million for one year, greatly expanding access to the new Subchapter V.

Among other benefits:

  • Owners Can Retain Their Equity. Subchapter V eliminates the “absolute priority rule,” meaning existing business owners may retain equity without paying creditors in full or injecting “new value” into the business. Instead, the debtor may contribute its “projected disposable income” (i.e., income that is not reasonably necessary to be expended for maintenance or support of the debtor, or for the payment of expenditures necessary for the continuation, preservation, or operation of a business) for three-to-five years pursuant to its plan. In effect, during the plan period the debtor pays prepetition unsecured creditors what it can afford.
  • The Plan Process is Accelerated. The debtor must propose a plan within 90 days, an acceleration of the reorganization process which should help minimize costs. 
  • Only the Debtor May File a Plan of Reorganization. Giving the debtor the exclusive right to propose a plan eliminates the skirmishing (and cost) associated with competing plans proposed by creditors or other parties in interest.
  • No Disclosure Statement Required. The debtor can avoid the time and expense associated with preparing and securing court approval of a separate disclosure statement.
  • No Creditors’ Committee. Under new Subchapter V, a committee will be appointed rarely and only upon a showing of “cause.” This change should eliminate a material expense and source of contention for the debtor.
  • Appointment of a Subchapter V Trustee. Although the debtor’s management retains control of the company in the bankruptcy, a Subchapter V trustee is appointed in each case to help guide the debtor through the reorganization process and facilitate the development and implementation of a plan.
  • The Debtor Can Pay Administrative Claims Over Time. In a traditional Chapter 11 case, administrative claims (including taxes and professional fees) generally must be paid in full upon plan confirmation, often presenting a significant obstacle to confirmation. Subchapter V permits the payment of administrative claims over the life of the plan, making confirmation much less burdensome.

All told, the SBRA enacted a series of important reforms that should benefit a broad swath of the small business community, especially in the wake of Covid-19. Please do not hesitate to contact Downes McMahon to discuss their impact on you or your small business clients or customers.