The Best Tool for a Struggling Small Business
In 2026, a workout is likely the best tool for a struggling small business in the United States if the company is viable, its debt is owed to only a few creditors (such as a bank, a landlord, or an equipment finance company), and these creditors are willing to negotiate. Bankruptcy, typically Subchapter V of Chapter 11, may be the best tool for a struggling small business in the US if there is a single creditor who can sink the plan, such as a lender who refuses to work with the company, a creditor ready to seize collateral, or the company owes money to too many creditors for them to be addressed one by one. The small business owner must decide whether all relevant creditors will sign, whether the owner has personally guaranteed the debt, and what tax implications arise from forgiven debt.
Whether or not a workout is a good idea for a business depends on the answers to these three questions:
- Will every important creditor sign?
- Did the owner personally guarantee the debt?
- How will forgiven debt be taxed?
A workout is a contract.
- Reduced interest rate.
- Deferral of payment.
- Extension of payment maturity.
- Discounted payment in full.
- Forbearance period in which the lender agrees not to enforce its rights.
A workout agreement does not involve court costs. There is no public record of a workout agreement and the business owner maintains complete control. However, a workout agreement only involves creditors who sign on. In addition, a workout agreement has no automatic stay and a creditor who refuses to sign may continue lawsuits, garnishments or repossessions. A lender will expect some consideration for agreeing to a workout agreement. Some typical demands by lenders include:
- Acknowledgement of balance owing.
- Waiver of defenses and jury trial.
- Release of claims against lender.
- Payment of lender legal fees.
File for Bankruptcy Under Subchapter V
Bankruptcy is an alternative to a workout. Small businesses can file for bankruptcy under Subchapter V. This has been an option since February 19, 2020, under Chapter 11. When a business files for Subchapter V, there will be an automatic stay. This means that no one can take collection action against the business or its property. Only the debtor can file a plan and it must be filed within 90 days. The deadline can only be extended for cause not caused by the debtor. There will be no creditors’ committee and no separate disclosure statement unless the court orders it for cause. There will be a Subchapter V trustee appointed in every case. The trustee is responsible for ensuring that the debtor complies with the plan and makes payments. The business will make payments to the Subchapter V trustee as an administrative expense.
A significant distinction between a Subchapter V and a workout is the authority to cram down non-compliant creditors. Under the absolute priority rule, generally in a chapter 11 case business owners cannot maintain their equity in the business over the objections of a class of unsecured creditors. The only exceptions to the absolute priority rule are that the class of unsecured creditors is fully paid or the owners contribute new capital. Subchapter V abrogates the absolute priority rule. 11 U.S.C. 1191 allows the court to confirm a plan over the objections of unsecured creditors if the plan is “fair and equitable” as to the unsecured creditors. As applied to unsecured creditors, “fair and equitable” means that the business must commit “projected disposable income” for a period of three to five years and that the plan is feasible. Business owners can maintain ownership of the business, even if all of the creditors vote against the plan.
The Subchapter V Limit
The first hurdle is eligibility, and the limit is changing. For a case filed today, a business qualifies for Subchapter V only if three things hold.
- Its noncontingent, liquidated debts must total $3,424,000 or less.
- At least half of that debt must come from business activity.
- And it cannot be a single-asset real estate entity.
Until June 2024 the limit was a temporary $7.5 million. Congress has now passed the Bankruptcy Threshold Adjustment Act of 2026, H.R. 7730. The House approved it by voice vote on September 16, 2026, and the Senate passed it on September 28. In early October 2026 the bill was still waiting for the President’s signature. Once signed, the act would set the Subchapter V limit at $7.5 million for good, with inflation adjustments every three years.
According to the American Bankruptcy Institute, the Subchapter V debt limit blocked 1,475 businesses who would otherwise have filed a Subchapter V bankruptcy between June 22, 2024 and March 15, 2026. 1,107 Subchapter V cases were filed in the first half of 2025 versus 1,663 in the first half of 2026. Those businesses over the limit can still file a regular bankruptcy. Regular Chapter 11 is much more restrictive. There is only a 120-day ‘exclusive time’ to file a plan, after which any other creditors can file their own competing plans. The absolute priority rule is fully applied.
Court Fees
The costs are night and day. A Chapter 11 filing fee is $1,738, while a Chapter 7 fee is $338. A business debtor filing for Chapter 11 must also pay a quarterly fee to the U.S. Trustee for each quarter that it remains open. For the quarters beginning on April 1, 2026, the fee is $250 if its quarterly disbursements are under $62,625. It is 0.4 percent of disbursements up to $999,999 and 0.9 percent at $1 million or more, capped at $250,000. Failure to pay could result in conversion or dismissal of its case. No quarterly fees apply to a Subchapter V case. There are no court fees in a workout, but the business will likely have to pay its lender’s lawyers in addition to its own.
Personal guarantees often settle the choice. The automatic stay protects the business that files, not the owner who signed a guarantee. Courts have generally held that the stay under section 362 does not cover guarantors or co-obligors. In Harrington v. Purdue Pharma (2024), the Supreme Court ruled 5 to 4 that a Chapter 11 plan cannot release claims against people who are not debtors unless the claimants consent. So a Subchapter V plan cannot permanently cancel an owner’s guarantee over the lender’s objection. After Purdue, some bankruptcy courts have still treated temporary injunctions that pause guaranty lawsuits as available, but the law remains unsettled. A workout, by contrast, can expressly release or cap a personal guarantee if the lender agrees.
Taxable Cancellation of Debt Income
The tax consequences of a workout can differ greatly. Generally, a cancellation of debt in a workout gives rise to taxable cancellation of debt income, except to the extent one of the exclusions for cancellation of debt income applies. Exclusion for debt canceled in connection with insolvency (Section 108) . Section 108 of the tax code excludes from gross income debt canceled to the extent the taxpayer is insolvent immediately prior to the debt cancellation. If a taxpayer has $3,000 of insolvency immediately prior to the cancellation of $5,000 of debt, then the taxpayer can exclude $3,000 and must include $2,000 in income. Exclusion for debt discharged in a bankruptcy case (Section 108) . Section 108 of the tax code excludes all debt discharged in a bankruptcy case.
Only a taxpayer who is a debtor in a bankruptcy case is able to use this exclusion. Therefore, the owner of a disregarded single member entity is not a “debtor” and does not qualify for the bankruptcy exclusion through the entity. Both exclusions require the filing of Form 982 and a reduction of the taxpayer’s tax attributes, e.g., net operating losses.
An Unsuccessful Workout Can Be Partially Undone
Timing is also important because an unsuccessful workout can be partially undone. If the business makes a payment to a creditor during the negotiation period and then files for bankruptcy within 90 days, a trustee can file an action to recover the payment as a preference. If the payment is made to an insider (an owner or his family member), the lookback period expands to one year. If the bankruptcy is filed after April 1, 2025, and the business’ debts are predominately not consumer debts, it’s insulated from recoveries of transfers made to a creditor totaling under $8,575. Holdout creditors can do some negotiating of their own. Creditors with claims totaling $21,050 or more can file an involuntary petition for bankruptcy against a business. A workout that favors some creditors can result in those same vendors being hit by clawbacks if the workout flops.
A workout is a better option if the business has a couple of creditors, it can cover the new payments and the owner can include any guarantee in the deal. Subchapter V is an option if the business is viable but there’s a holdout creditor, a heavy collection issue, or the business can’t negotiate with all its creditors separately. It’s a good idea if the business needs to terminate leases or contracts, and a workout won’t let them do that unless the other party agrees.
