Repeat after me: Bankruptcy does not equate to failure.
As a small business owner or individual who has been financially impacted by COVID-19, you are likely facing difficult times. One of the most daunting decisions might center upon whether the United States Bankruptcy Code can help you achieve your business and personal objectives.
History teaches us that, in spite of the negative connotation associated with bankruptcy, the laws were designed to help you try again—especially amidst situations like this one, where a business has been blindsided by an unpredictable event. To put it simply, bankruptcy allows debtors to eliminate or reorganize debt in the event that they’re unable to repay it under the original terms. Before bankruptcy laws were established, the future for someone who couldn’t pay their debt looked grim, from debtor’s prison to debt slavery. Bankruptcy exists to foster innovation, to give the honest but unfortunate debtor a fresh start, and to provide for equality of distribution to creditors.
“Nearly every other nation in the world takes…a ‘salvage’ approach to corporate bankruptcy. If a corporation fails, its managers are immediately displaced, an outside official takes over, and the firm’s assets are sold to whoever will have them, often at scrap prices. U.S. Bankruptcy law, by contrast, is designed to ‘rescue’ firms that falter.” – David A. Skeel, Jr. author of Debt’s Dominion: A History of Bankruptcy Law in America
What to know if you’re considering bankruptcy
Realign your perspective of bankruptcy to think of the process as a strategic move rather than a last resort. Many individuals and businesses have filed for bankruptcy to achieve particular objectives. In the U.S., you have the option to voluntarily file to obtain meaningful and significant benefits, including the automatic stay of litigation from creditors.
If you’re a small business owner, you’re having to make tough choices, but the most important choice you can make right now is to retain competent counsel to help you navigate this unforeseen territory and new legislation. Understanding the options that are available to your business is the first step, and then you can make an informed decision as to which type of stimulus you should pursue and whether to consider bankruptcy down the line.
A word of warning: Recognizing this urgent need, I anticipate many attorneys may attempt to transition their practices to bankruptcy to accommodate the surge in cases. Be wary. Bankruptcy law is an extremely complex branch of our legal system and requires an expert advisor to guide you through it. You may see advertisements for debt repair agencies or scams, so be sure to protect yourself from anyone trying to take advantage of this vulnerable situation. Study the bankruptcy track record of a prospective counsel.
A qualified legal or financial counsel will guide you through the acquisition of stimulus money and then what your next steps should be after this accumulation of COVID-19 debt. It’s important to be proactive in receiving guidance in order to build a long-term strategy and make the right decisions moving forward.
Types of corporate bankruptcy
Bankruptcy is not the control-alt-delete button for your business. A great deal of work, time and preparation are involved to arrive at this important decision. Opting for a free fall or emergency bankruptcy is not ideal and will not yield the hopeful future that a well-planned bankruptcy can achieve. The most successful way to approach a bankruptcy is to file your case with an established plan already in hand.
Below is a high-level overview of the corporate bankruptcy options available to you. It’s not your job to decipher the law (leave that to your counsel), but it does help to have a degree of understanding as you navigate the process.
Chapter 11 is a tool for business owners that many companies use to achieve strategic business objectives, or as a means to a healthier end, rather than the end. Chapter 11 allows management to rid itself of burdensome contracts or leases, to sell assets or divisions free and clear of liens, or to extend payment terms using the force of the bankruptcy plan. Managers of a business can decide to voluntarily file for reorganization. Unique to American law, you stay in control post-petition, managing the daily affairs of the company through the bankruptcy process until a plan of reorganization is confirmed. You’re generally excused from paying all “secured claims” (mortgages, car loans, etc.) while the business obtains a breathing spell, protected from creditor claims by the automatic stay. As management, you also have the exclusive right to propose a plan for up to 18 months following the date of filing a bankruptcy petition. This gives you substantial time to determine the best path forward on your own terms with the help of your counsel.
Chapter 11 Small Business Subchapter V
In 2020, a new sub-chapter of the Bankruptcy Code was invented by Congress to facilitate a simple and efficient bankruptcy option for small businesses that were finding the original Chapter 11 filing process to be too complex and too expensive. Under Subchapter V, many of the costs of bankruptcy are eliminated, and each case is overseen by a standing Chapter 11 Trustee which supervises operation and proposition of Chapter 11 bankruptcy plans. The CARES Act has almost tripled the debt limits for eligibility under Subchapter V. This allows for more small businesses that have been negatively affected by COVID-19 to take advantage of a more frugal and faster reorganization process.
Types of personal bankruptcy
The central concept in personal bankruptcies is a fresh start (also known as discharge in legal jargon). The term discharge typically means to “relieve a burden” or “set aside, dismiss, or annul.” For the honest but unfortunate debtor, a discharge in bankruptcy makes the existing obligations null and void; Creditors can no longer attempt to collect.
While bankruptcy laws have been around for thousands of years, the concept of the discharge is unique and relatively recent. The discharge incentivizes risk-taking in a capitalistic society, to encourage new product development, the creation of innovative services, the development of better production methods, and the starting of new businesses. Personal bankruptcies are generally filed under Chapter 7 or 13 of the bankruptcy code, but some situations may require individuals to reorganize under Chapter 11.
Chapter 7 – Liquidations
In a Chapter 7 case, you file a bankruptcy petition, schedules, and statements listing all assets and liabilities. You will claim exemptions on property such as a primary residence, vehicles, and personal property up to the amounts allowed by law. Exempt assets are not administered by the court. In theory, all non-exempt assets are then sold by a Chapter 7 trustee, and the proceeds distributed to the creditors. In practice, you will often buy back the non-exempt property, and the trustees regularly abandon property deemed not suitable for sale by a bankruptcy estate.
Chapter 13 – Payment Plan Cases
If you don’t qualify for Chapter 7, you may retain property, pay mortgage arrearages, and other debts under a three or five-year repayment plan under Chapter 13 of the Bankruptcy Code. In a Chapter 13 case, you retain all of your assets, instead of turning them over. You must repay what the law defines as “net disposable income” to the creditor body over the life of the plan. Chapter 13 is best thought of as no interest debt consolidation, where you receive a discharge from most remaining debts upon the completion of the plan period.
How do I move forward?
My goal is to change your perception of bankruptcy. Don’t think of this pivotal moment as a dead-end sign for your business or personal financial integrity. With the right plan in place and the right counsel in your court, we can help you weather this storm together.
I’m currently offering a reduced retainer of $500 for the next sixty-days for small businesses impacted by COVID19 that retain our firm to provide general advice and counsel during these trying times. With our firm as your general counsel, you can direct creditor claims and demands to us, while we plan your path forward. I can’t stress to you enough the importance of seeking counsel early in the process, while counsel still has capacity to accept new matters because many of the decisions you make now will be important and likely scrutinized in the future.
Michael H. Moody Law, P.A. is a law firm operating regionally in the South East which handles a wide variety of bankruptcy and business issues. MHMLPA is a modern law firm that is able to scale its workforce to assist with any sized Business Litigation or Bankruptcy matter from a cross-border multinational company bankruptcy to a no-asset Chapter 7 filing.