On February 19, 2020, the clause ‘Small Business Reorganization Act’ (SBRA) was passed that enforced Subchapter 5 of Chapter 7 of the Insolvency Code. It was amended by CARES (Coronavirus Aid, Relief and Economics Security Act) to accommodate increasing governments’ upper limit on borrowing to $7,500,000 annually. This shall prove to be pivotal to the flourishment of countless firms.
Under Chapter 13, debtors could reduce and renegotiate their delinquent debts without procuring their creditors’ acquiescence or providing unsecured creditors with up to three years’ available earnings. As such, it is highly regarded by small firms and their corporate attorneys. However, this chapter only applies to debtors owing money to unsecured trade payables worth a maximum of $394,725.
The alterations in law sanction businesses to renegotiate all debts to $7,500,000 by committing to reimburse them using available earnings (not required for the debtors’ personal purposes or the firm’s expenses) over three years.
There are two distinct attributes of these guidelines, the first one being that creditors’ concession is not required, which saves a lot of time and effort. The second attribute nullifies the Absolute Priority rule for Subchapter 5 cases, which would otherwise restrict firms from continuing their regular work till their payables are paid off. However, holders of trade payables are still entitled to receive proceeds from the debtor’s resources’ sales. It is prohibited to include competing plans.
Chapter 11 has laid down the benchmark guidelines for small firms to follow for many years. While they are still in place today, they do not provide the same benefits as those under SBRA. The firms may choose to adopt Subchapter 5 rules, but the small firm debtor rules will automatically apply to them if they don’t. Hence, it is crucial to determine which of the two rules would be congruous for them to abide by. Following the first one would be regarded as a ‘small business case’, whereas the revised one would be ‘cases under subchapter 5 of chapter 11’.
Another critical point of examination would why firms may pass on subchapter 5 despite its appealing attributes. Two fundamental reasons could explain this:
- The business is unprepared to undertake a fast-track approach. They would require over 300 days to execute the process. This could happen when a debtor is compelled to declare Chapter 11 owing to unprecedented obstacles in business.
- Subchapter 5 administrator: The firm may find it unfeasible to support an administrator- who is always chosen in a subchapter 5 case, taking over finite duties like aiding in repayments, working out deals, and providing guidance vis-à-vis management. As such, they do not have as much authority as a Chapter 11 administrator. The latter may take over the estate and foreseeing management’s responsibilities in certain situations, like gross misconduct. A Subchapter 5 administrator is also different from that of Chapter 13 because the former does not have the authority to veto the schedules’ finalization. The US Administration Office has multiple nominees for trustees available, who may be selected when needed.
Moreover, small firm debtors are sanctioned 345 days to finish the plan, whereas Subchapter 5 would entail just 90 days. The attorneys are therefore required to be fast and meticulous, ensuring no deadlines are missed. If this happens, the appeal may not be accepted or approved.
Creditors’ Favors: As mentioned before, trade payables under Chapter 11 are entitled to receive proceeds from the debtor’s resources’ sales.
Rights of secured claims are now allowed to be amended: The SBRA eliminates the restriction on amending entitlements of trade payables’ claim over the debtor’s permanent residence. This means that the debtors can now modify them as long as the estate is not used mainly for business operations, nor was it procured using the amount received.
All in all, debtors could retain their firm provided they meet forecast discretionary income requirements in reimbursing their debts. The holders’ approval is optional. Given the substantial benefits of Subchapter 5, it could be expected to be widely used in the future.