On March 27, 2020, President Donald Trump signed the Coronavirus Aid, Relief and Economic Security (CARES) Act into law. Among other things, the CARES Act made some important changes to the U.S. Bankruptcy Code.
Specifically, the CARES Act modified subchapter V of the bankruptcy code to make it more widely available to small businesses. The Small Business Reorganization Act (SBRA), which became effective on Feb. 19, 2020, created subchapter V. It was enacted to eliminate hindrances that might deter a small business from reorganizing under chapter 11.
It accomplishes this goal by creating a more efficient process for reorganizations and a simpler standard for plan confirmations. However, as originally enacted under the SBRA, eligibility for a subchapter V case was limited to a business with less than $2,725,625 in debt. The CARES Act temporarily increases the debt limit for a small business to qualify under subchapter V to $7,500,000. This increased debt limit will remain in effect from the date of enactment of the CARES Act for a period of one year, at which point the debt limit will revert to $2,725,625.
By increasing the debt limit by nearly $5,000,000, the CARES Act will make subchapter V available to significantly more businesses. Subchapter V was enacted to be less complex and costly than a reorganization under a tradition chapter 11 bankruptcy. Now, with the expanded availability created by the CARES Act, many businesses may choose to reorganize under subchapter V in order to take advantage of its speedier process and reduced cost.
To better comprehend the significance of the CARES Act’s changes to the bankruptcy code, it is important for small business debtors to understand the benefits of subchapter V. Some of the advantages of filing for reorganization under subchapter V include:
- A creditors’ committee is not formed, and as a result the debtor’s bankruptcy estate does not bear the costs of the committee’s professional(s), who, in a chapter 11 bankruptcy, are paid out of the debtor’s bankruptcy estate.
- The U.S. Trustee will appoint a small business trustee to oversee each small business case. This trustee will be similar to trustees appointed in chapter 13 cases.
- Absent expansion of the trustee’s role, management of the small business remains with the debtor.
- The absolute priority rule does not apply, so a debtor may retain its equity interest even though unsecured creditors do not receive payment in full.
- As for plan confirmation, the bankruptcy court can confirm a debtor’s plan without the acceptance of an impaired class of creditors as long as the plan does not unfairly discriminate and is deemed to be fair and equitable in regards to each class of claims. For a plan to be fair and equitable, it must provide that all of the debtor’s projected disposable income to be received during the plan will be used to make payments for a period of three to five years.
- Subchapter V also gives the small business debtor flexibility to pay administrative claims over the life of the plan rather than in cash on the effective date of the bankruptcy.
- The debtor is not required to file a disclosure statement.
In addition to expanding the availability of subchapter V, the CARES Act also makes temporary revisions to chapter 7 and chapter 13 of the bankruptcy code. Namely, payments from the federal government related to COVID-19 are excluded for the purposes of calculating a debtor’s income in determining eligibility under chapter 7 and chapter 13. The CARES Act also excludes such payments in determining a debtor’s disposable income for a Chapter 13 plan of reorganization. Additionally, under the CARES Act, a debtor who has already confirmed a plan prior to the enactment of the CARES Act may modify his or her plan if (i) the debtor experienced a material financial hardship caused by the COVID-19 pandemic and (ii) the plan is approved after notice and a hearing. Like the change to subchapter V, these changes are applicable for one year from the date of the CARES Act.