Small Business Reorganization Act Expanded by CARES Act
As part of the CARES Act, Congress amended the Small Business Reorganization Act in a crucial way
The CARES Act, which may be the single largest stimulus package in US history, includes an important provision that has not received nearly the notoriety of the SBA loan and other grant provisions. As part of the CARES Act, Congress amended the Small Business Reorganization Act (“SBRA”) in a crucial way – raising the maximum debt limit from $2,725,625 to $7.5 million. This higher debt limit will be in effect for one year. This higher debt limit will dramatically increase the number of companies that can take advantage of SBRA’s provisions in the coming months. Before the CARES Act, only small businesses with less than $2,725,625 of debts could take advantage of SBRA’s streamlined rules for business reorganization for small companies. The large expansion of eligibility through the substantial increase in the debt limit will make SBRA available to a much larger cohort of small businesses for the next twelve months.
SBRA was passed last year but went only into effect on February 19, 2020. It was intended to “streamline the process by which small business debtors reorganize and rehabilitate their financial affairs” under the Bankruptcy Code. It is estimated that as much as 40 percent of the Chapter 11 debtors in Chapter 11 cases filed since 2017 would qualify as a small business debtor under SBRA using its original debt limits. This percentage is obviously much greater with much the higher debt limit under the CARES Act.
Before SBRA, many small businesses faced with the expense and complexity of Chapter 11 simply gave up, closed their doors, and filed a Chapter 7 liquidation. SBRA allows small business debtors (including individuals with more income than would qualify them for Chapter 13 relief) to use a simplified form of Chapter 11 that eliminates a number of things that otherwise made Chapter 11 so difficult to navigate and survive, such as:
- No creditors committee is appointed, but instead a case trustee is appointed to monitor case progress and work to accomplish a consensual plan of reorganization;
- A disclosure statement is not required; and
- No US Trustee fees have to be paid.
Several other changes to regular Chapter 11 requirements are intended to speed up the process and make it more likely a plan can be confirmed, such as:
- Only the debtor can file a plan of reorganization;
- The debtor’s plan must be filed within 90 days of filing the petition;
- If the debtor commits between three to five years of disposable income to plan payments that are completed, it can receive a discharge of remaining debt;
- Owners of a small business debtor can retain their interests in the business, even if all claims are not paid in full; and
- As part of a plan of reorganization, the debtor may modify a loan secured by a principal residence if the proceeds were used primarily for the business.
By opening the doors of SBRA to a much wider swath of small business debtors, Congress has created an opportunity for small businesses to seek bankruptcy protection, restructure their debts, and emerge with a viable repayment plan through a process that should be less litigious and expensive.
Creditors, landlords, and other lenders to small businesses will need to understand how SBRA (and the new debt limits enacted by CARES) alters the playbook in these cases. The debtor, with the input of a neutral case trustee, will have increased power in shaping its plan of reorganization and the terms of repayment. Even creditors experienced in the world of bankruptcy will find themselves in unfamiliar territory created by SBRA. This will likely have an impact on how these creditors deal with distressed small business debtors in loan and other workouts, as the threat of a small business bankruptcy filing under SBRA strengthens the hands of the debtor.
Only by understanding the many changes made by SBRA to the dynamics of a Chapter 11 case will creditors be able to navigate what is expected to be a wave of small business bankruptcies in the wake of the sharp financial downturn caused by the COVID-19 crisis.