What Is Chapter 11? - Thomas K. McKnight LLP
Chapter 11 is a type of bankruptcy that consists of a reorganization of a debtor's business affairs, debts, and assets, and therefore is called "reorganization" bankruptcy.
Understanding Chapter 11
Named after the U.S. bankruptcy code 11, companies usually file Chapter 11 if they require time to restructure their debts. This form of bankruptcy offers the debtor a clean slate. However, the terms are subject to the debtor's fulfillment of its obligations under the plan of reorganization.
Chapter 11 bankruptcy is the most complicated of all bankruptcy proceedings. It is also generally the most expensive kind of a bankruptcy proceeding. For these reasons, a company has to consider Chapter 11 reorganization only after careful evaluation and exploration of all other possible alternatives.
During a Chapter 11 case, the court will help a business restructure its debts and responsibilities. For the most part, the company stays open and operating. A number of big U.S. companies file for Chapter 11 bankruptcy and survive. Such companies include automobile giant General Motors, the airline United Airlines, retail store K-mart, and thousands of other companies of all sizes. Corporations, partnerships, and limited liability companies (LLCs) usually file Chapter 11, however in rare instances, individuals with a lot of debt that do not qualify for Chapter 7 or 13 may be eligible for Chapter 11. However, the process is not a speedy one.
A business in the midst of filing Chapter 11 may continue to run. For the most part the debtor, called a "debtor in possession," runs the company as usual. However, in cases involving fraud, deceit, or gross incompetence, a court-appointed trustee steps in to run the business throughout the entire bankruptcy process.
The company is not able to make some decisions without the consent of the courts. These consist of the sale of assets, besides inventory, starting or ending a rental agreement, and stopping or expanding business operations. The court also has control over decisions associated with retaining and paying attorneys and entering contracts with vendors and unions. Lastly, the debtor can not set up a loan that will begin after the bankruptcy is concluded.
In Chapter 11, the individual or company declaring bankruptcy has the first chance to suggest a reorganization plan. These plans might include downsizing of company operations to lower expenses, as well as renegotiating debts. In some cases, plans include liquidating all assets to pay back lenders. If the chosen path is feasible and reasonable, the courts approve it, and the process moves forward.
The Small Business Reorganization Act of 2019, which went into effect on Feb. 19, 2020, added a new subchapter V to Chapter 11 designed to make bankruptcy easier for small businesses, which are "defined as entities with less than about $2.7 million in debts that also meet other criteria," according to the U.S. Department of Justice. The act "enforces shorter deadlines for completing the bankruptcy process, allows for more flexibility in negotiating restructuring plans with lenders, and provides for a private trustee that will work with the small business debtor and its creditors to assist in the development of a consensual plan of reorganization."
The Coronavirus Aid, Relief, and Economic Security (CARES) Act, signed into law by the president on March 27, 2020, increased the Chapter 11 subchapter V debt limit to $7,500,000. The change applies to bankruptcies filed after the CARES Act was established and sunsets one year later.