Small Business Reorgs: Insights on Subchapter V and Differences from Chapter 11

The ABA Litigation Section’s Bankruptcy and Insolvency Committee held a roundtable discussion regarding developments in small business reorganizations under Chapter 11, Subchapter V, of the Bankruptcy Code and how they differ from typical Chapter 11 proceedings. The panelists were Judge Paul W. Bonapfel, U.S. Bankruptcy Court, Northern District of Georgia; David Klauder, an attorney at Bielli and Klauder, LLC, in Wilmington, Delaware, whose practice includes commercial and corporate bankruptcy; and Brian Ryniker, a member of RK Consultants, LLC, in New York City, a certified public accountant, as well as a certified insolvency and restructuring advisor. Shayna Steinfeld, a bankruptcy attorney practicing business and consumer law at Steinfeld and Steinfeld in Atlanta, Georgia, served as moderator.

The panel outlined the features and development of Chapter 11, Subchapter V, reorganizations. Summarized below are some of the key insights from that conversation.

Top 15 Features of Chapter 11, Subchapter V

Judge Bonapfel opened the panel discussion by providing an overview of Chapter 11, Subchapter V, and highlighting the top 15 features of Subchapter V that can differ from a general Chapter 11 business filing:

1. Eligibility is generally limited to debtors with debts not in excess of $3,024,725 who are engaged in commercial or business activities. (The Subchapter V limit was $7.5 million at the time of the roundtable, as the event took place prior to the limit reverting back to just over $3 million on June 21, 2024.)
2. Appointment of a trustee is required, and the trustee has a duty to “facilitate the development of a consensual plan of reorganization.”
3. There is no committee of unsecured creditors.
4. There are no U.S. trustee fees (but the Subchapter V trustee gets paid).
5. There are the same reporting requirements as for a small business debtor case.
6. A status conference is required within 60 days of the filing, and the debtor is required to file a report regarding reaching a consensual plan, which is due 14 days prior.
7. 11 U.S.C. § 1115 does not apply, and the property of the estate does not include post-petition assets or earnings unless cram-down confirmation occurs.
8. Chapter 11 reorganization plan differences include (i) the plan may be filed only by the debtor; (ii) the plan must be filed within 90 days; (iii) the plan does not include a disclosure statement but does include some elements typically found in a disclosure statement, such as a brief history of the business, a liquidation analysis, and projections regarding the debtor’s ability to make payments under the plan; and (iv) the plan can modify a residential mortgage if the loan proceeds were used in the small business of the debtor.
9. Payment of administrative expenses must be provided for in the plan on the effective date of the plan unless cram down occurs.
10. Confirmation does not have to meet the requirement under 11 U.S.C. § 1129(a)(15) that an individual pay projected disposable income for the longer of five years or the term of the plan.
11. Cram-down rules differ somewhat in that cram down is possible even if no creditor accepts the plan, although cram-down rules for secured creditors remain the same.
12. Payments under the plan are generally made by the debtor and not by the Subchapter V trustee, although this area is developing.
13. The timing and scope of discharge can differ depending on whether the plan is cram-down or consensual, and there continue to be disputes regarding the applicability of exceptions in a cram down.
14. Post-confirmation modification: Only the debtor can modify the plan.
15. Qualification of professionals: A professional with pre-petition claims of less than $10,000 can still represent the debtor without waiver or disqualification.

Role of the Subchapter V Trustee

David Klauder outlined the role of the mandatory trustee in a Subchapter V case and observed that, unlike a traditional Chapter 11 trustee, a Subchapter V trustee does not liquidate assets or operate the business. The Subchapter V trustee’s primary role is assisting the parties in reaching a consensual plan, but Mr. Klauder observed that the powers of a Subchapter V trustee can be expanded in certain circumstances. Mr. Klauder also highlighted that the bankruptcy courts are sensitive to ensuring that the Subchapter V trustee is paid and that such payment must be planned for, despite the underlying liquidity issues typically experienced by debtors in Subchapter V.

The Subchapter V Case

Mr. Klauder briefly outlined the first-day motions filed in a typical Chapter 11 case and observed that many of these same motions will still be necessary in Subchapter V cases. However, Mr. Klauder observed, they are typically significantly less complicated than a traditional complex Chapter 11 case. As a Subchapter V trustee, Mr. Klauder indicated that his primary area of focus with regard to first-day motions is typically focused on cash collateral and cash management motions. Shayna Steinfeld added that the shortened time frames in Subchapter V highlighted the need to plan ahead if possible to ensure that the debtor’s books and records are in order prior to filing the case, including the first-day motions under Subchapter V (or any small business Chapter 11 case).

In his role as an advisor, Mr. Ryniker reinforced the need to quickly understand the collateral available when planning to file a case under Subchapter V. He stressed the importance of quickly building a strong relationship with the Subchapter V trustee, especially given the speed at which a Subchapter V case unfolds. Mr. Ryniker further elaborated on the essential role a financial advisor can play in assisting the debtor’s counsel with planning for a Subchapter V filing. A financial advisor can be especially helpful in converting the financial and operational aspects of the debtor into bankruptcy terms to assist all parties in understanding the practical side of bankruptcy, although not all small business debtors are able to afford a financial advisor.

How Is Eligibility Determined for Subchapter V?

Measuring Debt

The panel then discussed the calculation of debt for reaching a determination regarding eligibility for Subchapter V. Mr. Ryniker highlighted certain circumstances in which potential debts are not included when tabulating whether the debtor’s debts are below $7.5 million, after future rents have been excluded, among other factors. (As noted, this limit has been reduced since the time of the roundtable.) Judge Bonapfel discussed the nuances of recent rulings pertaining to the inclusion of affiliate debts in determining eligibility under Subchapter V when affiliates are in bankruptcy or the debtor filed for bankruptcy after an affiliate filed. He specifically addressed the case of In re Carter, 23-54816-JWC (Bankr. N.D. Ga. Dec. 13, 2023), an opinion by Judge Cavender on this issue denying eligibility because of affiliate debt being liquidated in Chapter 7.

Commercial or Business Activities

Judge Bonapfel also indicated that courts have broadly interpreted the term commercial or business activities to include even low-level activity associated with winding down a business or a business focused only on pursuing litigation claims.

It was noted that entire seminars and papers could be devoted to this issue and that these points just barely scratch the surface.

Unique Factors in Subchapter V Related to Making a Section 1111(b) Election

Judge Bonapfel then led a discussion regarding the treatment of secured claims in cram-down plans and whether under-secured creditors should make an election under 11 U.S.C. § 1111(b). While the discharge of secured claims does not differ in Subchapter V, the absolute priority rule does not apply under cram-down plans in Subchapter V. (This rule dictates the order of payment of claims, requiring the payment of senior claims in full before junior claims (creditors), in junior classes, may be paid or receive any distributions, or the owners may retain their interests, in other Chapter 11 cases.)

For example, an equity holder can retain a right to the equity even if the unsecured claims are not paid in full. If a secured creditor made a section 1111(b) election, the creditor would be entitled to receive the full amount of the secured claim, with no residual unsecured claim, should the collateral be worth less than the secured claim. The alternative would be receiving payments until the full amount of the secured debt is satisfied with an unsecured claim for the balance. In traditional Chapter 11 proceedings, secured creditors rarely make a section 1111(b) election because they would lose certain strategic advantages, including the right to try to control whether a plan is confirmed by voting no. However, under Subchapter V, confirmation does not require an “accepting impaired class” such that the no vote has less strategic advantage (it just creates the difference between a consensual plan and a cram-down plan). This also results in Subchapter V creating the potential for the secured creditor to receive greater economic benefits if it makes a section 1111(b) election without the subsequent loss of the strategic benefit of the unsecured claim controlling the unsecured class of claims. Whether greater economic benefits are available with the section 1111(b) election is dependent on the length of time payments will be made under the plan, the value of the collateral, the interest rate, and the time value of money. Under Subchapter V, creditors may be advised to fully explore their options to determine how to maximize their recovery.

Conclusion

This summary highlights a subset of the many insights offered by the panel, and I encourage everyone to listen to the roundtable in its entirety.