Coronavirus relief package includes bankruptcy change to help more small business owners keep their businesses

In the five months since COVID-19 began putting nearly every business at risk, business owners have been at the center of economic bailouts. This includes a little-recognized change to bankruptcy rules that offers a useful tool for small businesses struggling with debt.

In all the excitement over the Paycheck Protection Program, or PPP, and the Small Business Administration’s expanded Economic Disaster Loan Program, we’ve largely ignored the change, known as “under -Chapter V” (because it is a paragraph of the Chapter 11 Bankruptcy Rules) or simply “Chapter 5”.

Prior to this reform, large business owners hoping to retain control after a bad financial patch could hire an attorney to arrange a Chapter 11 filing. This filing would include a plan to pay business debts over an extended period of time, sealed by a agreement with all creditors.


Traditionally, Chapter 11 filings have only been useful for large corporations. First, retaining an experienced bankruptcy attorney for a Chapter 11 filing is expensive, making it potentially out of reach for small businesses already struggling to stay afloat. Paying filing fees, administrative fees, and a six-figure retainer to a Chapter 11 attorney to begin the bankruptcy process makes a lot of economic sense for a giant corporation. In contrast, anything over $20,000 for a small business could be prohibitively expensive.

Second, a Chapter 11 filing must make sense to creditors, all of whom must agree to a plan. Large companies are more likely to be able to liquidate assets or obtain new financing in the event of bankruptcy, making the likelihood of success clearer for creditors.

Now there is a better option for small businesses.

The Chapter 5 plan created by the Small Business Reorganization Act of 2019 went into effect last February for businesses with less than $2,726,625 in debt.

The federal CARES Act, passed in late March and known for the PPP, raised the debt limit for small businesses for one year to $7.5 million, opening the door to Chapter 5 as a tool for a larger group of small businesses. businesses during the COVID-19 pandemic.

All of this is brand new.

The Department of Justice assigned an initial cohort of approximately 200 trustees nationwide to administer this new type of bankruptcy.

Bankruptcy Court in San Antonio is located in the Hipolito F. Garcia Federal Building and the United States Courthouse.”/>

Kevin Epstein has been named U.S. Administrator for the West and South Districts of Texas. The US trustee program protects the integrity of the bankruptcy system. The United States Bankruptcy Court in San Antonio is located in the Hipolito F. Garcia Federal Building and the United States Courthouse.

Jerry Lara/Staff File Photo

Michael Colvard, a San Antonio-based bankruptcy specialist and partner at Martin and Drought PC, is one of two city administrators eligible to administer Chapter 5 cases as an administrator.

In mid-July, Colvard was appointed trustee for his first seven cases. “One of my first cases filed a plan, move forward and I expect them to be able to get out (of their financial hole),” he said.

“It offers a unique advantage,” he said of the enhanced Chapter 5, “and I see it as a potential opportunity for these kinds of businesses.”

Colvard explained why a small business would consider this new bankruptcy tool.

Chapter 5 allows a business owner to pay off business debts for up to 60 months, based on realistic cash flow generated by the business, as agreed to by creditors. Business owners must commit their future and projected disposable income to pay their debts.

Creditors generally don’t like bankruptcies. But Chapter 5, in theory, makes them pay somewhat — and makes them pay more than they would receive in Chapter 7, which usually means full liquidation, with nothing for creditors. Not all creditors are required to sign a Chapter 5 plan. The debtor simply needs to show that payments will be better for creditors compared to Chapter 7 liquidation.

Assuming that the company fully complies with the terms of the plan, the outstanding debts at the end of the process could then be discharged. In other words, forgiven. The kicker being that the original owner retains ownership.

This is the crucial difference between Chapter 5 and the traditional Chapter 11.

Normally, in bankruptcy, if you don’t pay your lenders in full, they become the owners of all your stuff and the business. Generally, Chapter 11 creditors do not agree to any plan unless the shareholders are wiped out first, before the creditors suffer losses. Under Chapter 5, however, companies pay some or most of their debts over five years, with the rest of their debts reduced to zero – and they keep the capital of the company.

Colvard said this new type of filing is definitely not a panacea.

“If you have a struggling business that isn’t making money, it won’t work,” he said.

Like so many other programs launching in the spring of 2020 for business owners large and small, the effectiveness and utility of the new Chapter 5 isn’t exactly clear.

San Antonio attorney Randy Osherow is a Chapter 7 trustee, the type of bankruptcy filed by debtors who have limited or no ability to pay their debts. Osherow expressed a combination of optimism, skepticism, and concern about the new Chapter 5.

“Theory is good for helping small businesses,” he said. “Everyone hopes it will work”, but it is not known “what type of companies will be able to use it”.

What he means is that a small business like a restaurant or retail store – even if it gets temporary creditor relief with this filing – may have a much harder time finding enough new capital to make this step worthwhile.

Osherow worried that many would not meet the terms of their Chapter 5 plan and end up having to liquidate or file for Chapter 7 bankruptcy, after all.

Osherow said he expects “a lot of filings (Chapter 7) in the fall, when we have so many unemployed, and from (late July and August), unemployment benefits and mortgage forbearances expire”.

Like so many business support laws introduced this year, we don’t yet know if it will work. But, unfortunately, we’ll probably see enough cases to test the usefulness of this new “small business bankruptcy” known as Chapter 5.

Michael Taylor is a columnist for the San Antonio Express-News and author of “The Financial Rules for New College Graduates.”

michael@michaelthesmartmoney.com | twitter.com/michael_taylor

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