The New Small Business Bankruptcy Game: Strategies for Creditors Under the Small Business Reorganization Act

28 American Bankruptcy Institute Law Review 251 (2020)

34 Pages Posted: 21 May 2020 Last revised: 14 Oct 2020

Date Written: May 18, 2020

Abstract

In late 2019, Congress enacted the Small Business Reorganizations Act. The Act’s timing is fortuitous: Weeks after it went into force in February, 2020, the Covid-19 pandemic damaged countless small businesses—enterprises that the Act may provide an opportunity to save.

The Act provides businesses with powerful options to reorganize under a new “subchapter V” of Chapter 11 of the Bankruptcy Code. Subchapter V eases the requirements for confirmation of plans that creditors don’t approve by simply requiring debtors to project their “disposable income” and pay it to creditors for three to five years; provides incentives for the parties to reach agreement on reorganization plans; lowers the debtor’s disclosure obligations; eliminates the regular appointment of an official committee of creditors; requires the appointment of a trustee to aid in plan negotiations; and permits modification of loans secured by a mortgage on a debtor’s primary residence.

Creditors will have to develop a new playbook for subchapter V cases. Most scholarship has emphasized debtors’ new options, but this Article presents an analysis from the perspective of creditors. Of course, creditors are not created equal; strategies will only be useful to creditors with claims substantial enough to justify the investment of time and money. Well-positioned creditors will extract whatever strategic gains they can at the expense of the debtor and of less privileged creditors. The game is multilateral, not simply creditor vs. debtor. The Article suggests strategies for variously positioned creditors to protect their interests.

The Article suggests seven major strategies:
1) Creditors should seek influence or control a debtor’s entry into subchapter V by making agreements with debtors concerning the election, using financial maneuvers to work around subchapter V’s debt limits, or challenging the debtor’s eligibility for entry.
2) Creditors should monitor and make use of trustees as circumstances warrant, whether by cultivating and working closely with them, by seeking to minimize their role and save expenses, or, at the extreme, by opposing them and seeking their removal.
3) To combat debtors’ tendency to delay, creditors should apply pressure on the debtor by emphasizing the statutory emphasis on speed, scrutinizing the debtor’s required disclosures, and enlisting the trustee and court where possible.
4) Creditors should avoid holding general unsecured claims, and, if eligible, should take the election offered by §1111(b) of the Code.
5) Subchapter V places a premium on plans being approved by creditors, so those whose votes are needed for confirmation should extract concessions in exchange for their vote. For those privileged creditors, this should be a major point of leverage.
6) Creditors should look to obtain information at every opportunity, including at the required meeting of creditors and status conference early in the case, in the disclosures and filings made by the debtor, and through formal discovery.
7) Creditors extending credit secured by a residence should designing lending practices to ensure that they cannot be “modified” by debtors in bankruptcy.

Many of the strategies above will be of keen interest to secured and other privileged classes of creditors. The Article predicts that with these and other strategies in hand, such creditors will not lose much ground under subchapter V. But the law lowers protections for general unsecured creditors, particularly those who remain passive. A number of the strategic tools presented in this Article can aid disfavored general unsecured creditors as well—but frequently, they will have too little at stake to make it worth putting their energy into the new small business bankruptcy game.

Keywords: Bankruptcy, Small Business Bankruptcy, Subchapter V, Small Business Reorganizations Act, Legal Strategies, Legal System, Debtor-Creditor Relations

JEL Classification: G33, K20, K12

Suggested Citation

Bradley, Christopher G., The New Small Business Bankruptcy Game: Strategies for Creditors Under the Small Business Reorganization Act (May 18, 2020). 28 American Bankruptcy Institute Law Review 251 (2020), Available at SSRN: https://ssrn.com/abstract=3594656 or http://dx.doi.org/10.2139/ssrn.3594656

Christopher G. Bradley (Contact Author)

University of Kentucky College of Law ( email )

620 S. Limestone Street
Lexington, KY 40506-0048
United States

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