What is Chapter 11 bankruptcy and how does the filing process work?

This isn’t a topic that’s ever really gone away. Businesses have been struggling since the recession, and the term is familiar to anybody who follows the news. Even figures as big as the rapper 50 Cent, the grocer A&P and Columbia Records have all filed for Chapter 11. But what is Chapter 11, really, and how does the filing process actually work?

Chapter 11 bankruptcy is the chance to reorganize. Pay down the debt, trim things back, rebalance income and expenses, and get profitable again. If you’re a corporation, LLC or partnership, you can keep operating during the case, paying your creditors under the repayment plan.

It’s not a quick and easy process. Anyone looking at a Chapter 11 should take some time and talk to a bankruptcy attorney. They can tell you what’s at stake, what the court will expect you to do and what it will ultimately mean for your life in the meantime.

This isn’t the whole story, but here is a general overview of what a typical Chapter 11 case usually looks like:

The Filing Process

There are certain preparations involved in filing a personal bankruptcy. For example, you’ll have to finish a credit counseling class, through an approved agency. That’s not required when you’re reorganizing a business’s debts.

Like any type of bankruptcy, you’re going to start with a petition. Get together your schedules for assets, debts, income and expenses. Tie it all together with the Statement of Financial Affairs. Check that everything is accurate, and you can file it with the court. Filing starts the automatic stay, so most creditors can’t take action against you until a bankruptcy judge says they can.

This was one of the strategies the rapper 50 Cent used, back when he was getting ready to file. He was ordered in a lawsuit to pay out an $8 million settlement. He went right in and filed Chapter 11. As a result, the folks he owed couldn’t come after him to try to get their money for the time being.

An emergency bankruptcy happens when people wait right until the wire, and trigger the filing process at the last possible minute. Someone knows they’re about to lose something (their home, often), so they rush it in to stop the bank from taking the property. The automatic stay goes into place that day.

You can do an emergency filing and skip the attachments at first, as long as you get the missing paperwork in within 14 days.

You have to watch your income and expenses closely during the case, and send monthly reports in to the bankruptcy court. It helps the creditors and the U.S. Trustee decide if the repayment plan you put forward is feasible. That’ll be one of the deciding factors on whether a judge approves your plan. File them consistently, and have an experienced attorney help you keep on top of things.

One of the things that happens early on is the debtor (that’s you) will be scheduled for an initial debtor interview. In that meeting, the United States Trustee goes over case information with the debtor. They talk about how the process works, duties the debtor has during the bankruptcy.

About 30 to 45 days after filing, the debtor will sit down for the 341 Meeting of Creditors, as it’s called. It’s a public meeting where the creditors have the chance to ask questions of the debtor under oath. The 341 meeting is usually about an hour or two.

The Disclosure Statement

Before a creditor decides whether or not to accept a debtor’s proposed plan, it should make sure it knows the debtor’s financial situation inside and out. The debtor files a disclosure statement, so the creditors can decide if they accept or reject the Chapter 11 plan.

Details vary depending on what the debtor’s background looks like, but it can be long. In a small business case, the court may decide that a disclosure statement is unnecessary if it already has a complete picture of how the debtor will pay everyone back through the Chapter 11 plan.

Here are some of the main things it’ll touch on, depending on what makes sense for your case:

First, it describes what led to the bankruptcy. An injury or job loss are among the common reasons. It’ll list the debtor’s assets, give a summary of the plan and outline what consequences the bankruptcy will have for taxes. As for the claims, it’ll identify them and how they’re going to be treated under the plan. You need the creditors to know if you’re breaking even, or even profiting by the end of the process. Sometimes, a statement will have a comparison of what this Chapter 11 would do with your situation, versus what would happen in Chapter 7.

During the Chapter 11 process, the debtor will mail the disclosure statement and proposed plan to every party in interest — creditors included. That means they receive notice. It explains how they can participate in the bankruptcy and what it may do to their rights.

The statement is reviewed in a hearing, and the court can approve or reject the statement. Usually, the creditors won’t be able to vote on the plan unless the disclosure statement is OK-ed first.

There may be other parties who object to parts of the statement, but statements are usually approved. So the statement hearing is normally just a formality.

Ask the Judge to Approve the Chapter 11 Plan

A Chapter 11 plan describes how each of the debtor’s creditor classes is to be treated. Creditors are typically divided into three classes: priority, secured and unsecured. Anyone who gets a raw deal can object, and you may have to file a cramdown motion. A cramdown asks the bankruptcy judge to let you shove the plan down their throats.

In the confirmation hearing, the debtor will show up in court and ask the judge to approve the Chapter 11 plan. For the plan to go through, every creditor class has to accept the proposal. If they don’t, and you can’t get them on your side, you may be able to submit the cramdown motion. If you get that done, then the hearing will be rescheduled to cover the cramdown motion. If a creditor doesn’t respond at all, they’re treated as accepting it. If they do respond and object, then the debtor must negotiate the issue with them; otherwise a judge will decide the terms at a hearing.

When it gets confirmed, you basically have a new, updated contract with each creditor. If you don’t pay them as the plan demands, they can sue. You agreed to the plan, so you have very little defense against it.

Plan payments can last for years and years, depending on the type of plan you’re approved for. Debts like mortgages or car notes are usually re-amortized over a longer term, meaning the lender recalculates the monthly payments to stretch them over the repayment period.

A discharge is probably the main reason people file for Chapter 11. When all the required payments to the unsecured creditor class have been made, the debtor asks the court to discharge the remaining unsecured debts. The creditors can’t collect on debts that were covered by the plan, and the case ends.

Even with as much as this covers, bankruptcy can be confusing, overwhelming and downright intimidating. And, even if Chapter 11 seems like it could be right for your situation, there could be other ways to go. Ways to cover your debt and protect your credit. Talking with an experienced bankruptcy attorney is the best way to learn about the options available to you. A lawyer can lay out your choices, and make sure you make the right decision for your business. You definitely want a professional on your side throughout the process.