The Looming Bankruptcy Pandemic and the Impact of the New Small Business Reorganization Act’s Changes to the Bankruptcy Code

April 20, 2020 Gregory P. Gillis Bankruptcy

The Small Business Reorganization Act creates a streamlined and expedited way for small businesses to reorganize without the time and requirements of Chapter 11.

In light of the COVID-19 virus, a newly enacted section of the Bankruptcy Code may suddenly become, depending on your perspective, a lifeline for many small businesses or a curse for creditors. The Small Business Reorganization Act of 2019 took effect February 19, 2020. It creates a streamlined and expedited way for small businesses to reorganize without the time and requirements of Chapter 11.

A “Small Business” debtor can be an individual or an entity, engaged in commercial or business activities whose total secured and unsecured debts are not more than $2,725,625 (the CARES Act increased the threshold to $7.5 million for one year, after which it will revert to original amount), not less than 50% of which arose from commercial or business activities.

The Small Business estate includes all property acquired by the debtor pre- and post-bankruptcy filing until the bankruptcy case is closed, dismissed or converted, including earnings for services performed post-bankruptcy filing.

Small Business debtors must attach to their bankruptcy petition their most recent balance sheet, statement of operations, cash-flow statement, and federal income tax return, or declare under penalty of perjury no such documents have been prepared.

A mandatory status conference is held not less than 60 days after the Small Business debtor’s bankruptcy filing to discuss the expenditures and an economical resolution of the case. Fourteen days before the status conference, a report must be submitted detailing the Small Business debtor’s efforts undertaken to achieve a consensual plan of reorganization.

A standing trustee is appointed in the bankruptcy case who supervises the case, helps the debtor formulate a plan, reports fraud/misconduct, and monitors distributions to creditors under the Small Business debtor’s plan of reorganization until substantial consummation of the plan is achieved.

There is no disclosure statement required to support a Small Business debtor’s plan of reorganization. The information typically contained in the disclosure statement is addressed in the plan of reorganization.

Only the Small Business debtor can file a plan of reorganization, which is due within 90 days of the bankruptcy filing (as opposed to 120 days in Chapter 11) and addresses:

  • a brief history of the Small Business debtor’s business operations;
  • a liquidation analysis; and
  • projections regarding the Small Business debtor’s ability to reorganize.

Future earnings are paid to the trustee to facilitate execution of the plan of reorganization.

The Small Business debtor’s plan of reorganization can be confirmed even if all impaired creditors vote to reject the plan, provided the plan does not discriminate unfairly and is fair and equitable as to other impaired classes of creditors in the bankruptcy case.

The Absolute Priority Rule does not apply. Small Business debtor owners may keep their equity ownership interests without the need to contribute new value even if unsecured creditors are not paid in full under the plan.

A Small Business debtor’s plan of reorganization is considered “fair and equitable” as to secured creditors, if it satisfies one of the following factors:

  • Secured creditors retain their lien and receive cash payments equal to their allowed claim amounts.
  • If a secured creditor’s collateral is sold, the secured creditor’s lien attaches to the sale proceeds.
  • If neither 1 nor 2, the secured creditor must receive the indubitable equivalent of their claim.

The Small Business Reorganization Act is a newly enacted addition to the Bankruptcy Code. It is likely that many small businesses will now meet the debt limitations, and both potential debtors and creditors should familiarize themselves with the Act’s provisions as part of addressing creditor/debtor issues arising from the COVID-19 Pandemic.