Small business debtors have continued to struggle to reorganize effectively under Chapter 11 of the U.S. bankruptcy code. In August, President Donald Trump signed the Small Business Reorganization Act of 2019 into law in an effort to address some of the problems.
The act aims to make small business bankruptcies faster and less expensive. Generally, the act only applies to business debtors with secured and unsecured debts of less than $2.726 million. The act includes the following provisions:
• Appointment of a trustee. The act provides for a trustee to facilitate the small business debtor’s reorganization and monitor the debtor’s consummation of its plan of reorganization.
• Streamlining the reorganization process. The act removes procedural burdens and costs associated with typical corporate reorganizations. Notably, only the debtor can propose a plan of reorganization. Small business debtors do not have to obtain approval of a separate disclosure statement or solicit votes to confirm a plan, and generally there are no unsecured creditors’ committees. The act also requires the debtor file its plan within 90 days of the bankruptcy filing.
• Elimination of the “new value” rule. The act removes the requirement that equity holders of the small business debtor provide “new value” to retain their equity interest in the debtor without paying creditors in full. For plan confirmation, the act instead requires only that the plan does not discriminate unfairly, is fair and equitable and provides that all of the debtor’s projected disposable
income will be applied to payments under the plan, or the value of property, to be distributed under the plan is not less than the projected disposable income of the debtor.
• Modification of certain residential mortgages. Notably, the act removes the categorical prohibition against individual small business debtors modifying their residential mortgages. The act now allows a small business debtor to modify a mortgage, secured by a residence, if the underlying loan was not used to acquire the residence and was primarily used in connection with the debtor’s small business.
• Delayed payment of administrative expense claims. The act removes the requirement that the debtor pay administrative expense claims—including those incurred for postpetition goods and services—on the effective date of the plan. Unlike a typical bankruptcy, a small business debtor now may stretch payment of administrative expense claims out over the term of the plan.
• Discharge limitations. In many cases, the court will grant the debtor a discharge after completion of all payments due within the first three years of the plan, or such longer period as the court may fix (not to exceed five years). The discharge relieves the debtor of personal liability for all debts provided under the plan except any debt: on which the last payment is due after the first three years of the plan, or such other time as fixed by the court (not to exceed five years); or that is otherwise nondischargeable. All exceptions to discharge under the bankruptcy code apply to the small business debtor. This is a departure from a typical corporate Chapter 11, which has a more limited set of exceptions to discharge.
The benefits of Chapter 11 reorganization have been elusive to small business debtors, given their size and limited financial resources and the expense and requirements of a typical Chapter 11 bankruptcy. The act attempts to remedy many of these obstacles to successful small business reorganizations. If the act proves to be beneficial to small business debtors, there may be a legislative push to increase the debt limitations and provide even more businesses access to the new act.
The act takes effect this month. Small businesses and lenders should be prepared to protect their interests under the new Small Business Reorganization Act. ♦
James B. Bailey and Edwin G. Rice are lawyers with Bradley Arant Boult Cummings in Birmingham, Alabama, and Tampa, respectively. This article does not constitute legal advice, and does not necessarily reflect the opinions of the authors or their clients.