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CARES Act: Bankruptcy Relief for Small Businesses

March 31, 2020

Many unanswered questions remain surrounding the $2 trillion stimulus package aimed at aiding American citizens and businesses as they cope with and recover from the unprecedented public health crisis caused by COVID-19 and the corresponding economic fallout.  Some of those questions relate to how the CARES Act will help sole proprietorships and small businesses that suddenly find themselves closed and unable to operate while financial obligations mount.  What follows is a brief summary of the recently enacted Small Business Debtor Reorganization section of the Bankruptcy Code and the amendments made to it and other provisions of the Bankruptcy Code by the CARES Act to address this issue. 

Title I of the CARES Act aims to keep American workers paid and employed.  As part of this relief, the CARES Act amended Subchapter V of Chapter 11 of the Bankruptcy Code, which was incorporated into the Bankruptcy Code by the Small Business Reorganization Act of 2019 (the “SBRA”) and became effective on February 19, 2020. 

Generally, the SBRA was meant to assist financially distressed sole proprietorships and smaller businesses that were otherwise ill suited to the onerous burdens of reorganization under Chapter 11 of the Bankruptcy Code.  The adoption of the SBRA made reorganization more accessible to sole proprietorships and small businesses by modifying certain parts of a Chapter 11 process to provide a more efficient and less expensive process of reorganization.  Due to the SBRA’s recent effective date, there is little guidance surrounding such cases.  The following are the most notable features of a small business filing under the SBRA:

  1. Debt Limit: Only small businesses with debts not exceeding $2,725,625 are eligible to file under this subchapter (single asset real estate cases are excluded).
  2. Status Conference: Within 60 days of filing, there is a status conference with the Court.
  3. Debtor’s Report: The debtor must file a report outlining the efforts it has undertaken and will continue to undertake to attain a consensual plan of reorganization 14 days prior to the Status Conference.
  4. Trustee: A Trustee oversees the case (but the debtor remains in control of its assets and the business), facilitates a consensual plan, and assists with making distributions in the case of a nonconsensual plan.
  5. Plan of Reorganization: Within 90 days of filing, a plan of reorganization must be filed.  Among other things, the Plan of Reorganization (i) can modify / strip-off mortgages on a principal residence that secures business debt, and (ii) must dedicate its disposable income to pay creditors over the 3-5 year course of the Plan, if unsecured creditors are not being paid in full.
  6. Disclosure Statement: None.
  7. United States Trustee Fees: None.
  8. Committee of Unsecured Creditors: None, unless ordered by the Court.
  9. Discharge: After all payments due under the Plan of Reorganization are made, the Debtor is granted a discharge, usually within the first 3 years, but no later than 5 years.

While the SBRA was a leap forward for small business reorganization, its effects were limited to only those businesses with liabilities below the $2,725,625 threshold.  The purpose, at least in part, of the amendments to the SBRA through the CARES Act is to enable a much larger number of sole proprietorships and small businesses to access the benefits of the SBRA during the outbreak of COVID-19.  To that end, the CARES Act amends the Bankruptcy Code to increase the debt limit for sole proprietorships and small businesses from $2,725,625 to $7,500,000 (excluding debts owed to an affiliate or an insider of the debtor).  The debt limit amendment under the CARES ACT applies to any case commenced on or after the effective date of the CARES Act and is effective for a one-year period, which expires on March 27, 2021, or the one-year anniversary of the effective date of the CARES Act.

The CARES Act will enable more sole proprietorships and small businesses to utilize the bankruptcy system to recover from the economic downturn caused by the COVID-19 pandemic by using simpler reorganization procedures and confirmation standards that would not otherwise have been available. 

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