When a lender starts moving to foreclose on a building, a piece of equipment or other property a business depends on, the owners we talk to at Delancey Street tend to reach for the same idea. They ask about Chapter 11, sometimes called a “reorganization” bankruptcy. It is the hardest, most expensive kind, but it’s also the right option for some businesses. Basically it lets them pay back their creditors over time while they generally keep their doors open and still run the show. To get a Chapter 11, you write out a plan that explains how you’re going to pay back your creditors and keep operating. This plan has to pass a vote from a certain number of the creditors, and then the court has to approve it as well, or “confirm” it. Here are five ways that process changes a foreclosure.
As Soon as You File a Chapter 11 Petition
The first is the automatic stay. As soon as you file a Chapter 11 petition, all collection activities and lawsuits against you and your business property screech to a halt. That includes the foreclosure on your property. (A few things may keep going, but they need the bankruptcy judge’s approval first.) Creditors also can’t call you anymore about your debts. You will have a chance to breathe.
The second is the pause on payments. Once you have filed, you don’t have to pay your debts while the case is active. This could last from a few months to a few years, giving you breathing room to turn your cash flow around. For a business whose cash was not coming in fast enough to pay the bills, this is a significant benefit. It can give a business more time to get back on its feet. You also get time to work out a plan. Four months after you file, you better have come up with a plan to restructure your debts. Fortunately, with the court’s permission, you can take up to 18 months to come up with that plan. If you can’t or don’t file a plan, sometimes your creditors will file one for you.
The third is that the lender’s claim is handled through your reorganization plan. In Chapter 11 you’ll propose a new payment schedule that lets you keep your assets, keep your doors open, and pay down your bills more gradually. A lender holding a mortgage or other collateral is a secured creditor, and the plan has to treat it a certain way. Any creditor who can show that its loan was backed by collateral that’s equal to or greater than the debt – that’s called being ”fully secured” – has to get paid in full, on a cash basis, with interest for delays. ”Undersecured” creditors are lenders whose collateral was worth less than the loan. The secured part of the loan – in other words, up to the collateral’s value – is protected, and the rest is treated as an unsecured claim. “Undersecured” creditors are not generally entitled to interest for delays.
The fourth is that the lender gets a vote, but not a veto. Each class of creditors gets to vote, yay or nay, on the plan. A class accepts the plan when more than half the creditors in that class and those creditors holding at least two-thirds of the dollar value of the class’s claims agree to it. If some classes vote no but one or more says yes, the court can approve the plan anyway under a ”cramdown,” as long as it meets Chapter 11’s requirements and the holdouts are treated fairly. Once a plan is confirmed, everybody has to live by it. Once the bankruptcy court confirms your reorganization plan, you get to discharge some pre-bankruptcy debts.
If the Plan Falls Apart, the Foreclosure Can Come Back
The fifth is the one owners tend to overlook: if the plan falls apart, the foreclosure can come back. But if the court refuses to confirm the plan, it usually gives you time to come back with one that it might approve. If the court doesn’t think that any plan will work, then it’ll either throw out the case or switch it to a Chapter 7, where your business assets get liquidated and the money used to pay back your creditors. If your case gets dismissed, your creditors can resume using normal methods such as a lawsuit or a foreclosure proceeding. And if you default on your confirmed plan, then the court may allow you to change it if there’s a valid reason. Otherwise it’ll toss the case or convert it to Chapter 7. “Dismissed” doesn’t sound so bad, but it means that your creditors can just pick up where they left off, and for a secured lender that can mean starting the foreclosure again.
Before You Treat Chapter 11 as the Answer
Before you treat Chapter 11 as the answer, weigh the cost. Chapter 11 is expensive. Just the quarterly trustee’s fees can be anywhere between $250 and $10,000. Chapter 11 is also the most complicated form of bankruptcy. But under Subchapter V, certain small businesses can file for bankruptcy a little faster and cheaper. Under Subchapter V, there are no U.S. Trustee fees or creditors’ committee expenses. You’ve got to have your plan in place within 90 days of filing, and you can have it approved without the approval of any class of creditors. There are trade-offs, though. First, a trustee must be appointed. However, generally they won’t operate your business. Second, the accelerated schedule can be difficult and extensions are hard to obtain. Finally, you’ve got to commit three years of projected disposable income to creditor payments.
Bankruptcy isn’t the only path. Delancey Street is a business debt settlement company, not a law firm, and our senior advisors negotiate with funders and lenders for less than the full balance owed. A first consultation is free and confidential. If a cheaper option exists, or bankruptcy, such as Subchapter V, is the better path for your business, we say so on the first call and refer you to a vetted independent attorney.
