Bankruptcy and Workouts After the CARES Act

As the COVID-19 crisis deepens, it is getting even more difficult for small business owners to plan for the future. It now appears likely that the crisis will not simply end – it will ebb and flow in waves for quite a while, yet another variable for small business owners to consider for an extremely uncertain future.

Despite the payroll protection program and all of the other government support programs being enacted in an effort to support the economy[1], it is a virtual certainty that hundreds of thousands of small businesses will need to file Chapter 11 bankruptcy reorganizations or enter into out of court workout agreements with their creditors during the next few years.

Several changes to a debtor’s ability to survive this chaos have occurred in recent months:

• The enactment of Subchapter V of Chapter 11 of the Bankruptcy Code;
• The enactment of the CARES Act; and
• The practical results of so many businesses teetering on the brink of failure.

Before getting into the details, I am repeating my basic plea to all small business owners facing potential troubles. PLEASE:

• Don’t wipe out your 401k accounts[2];
• Don’t borrow from friends and relatives;
• Don’t borrow on your credit cards merely to keep your company going for another payroll, another month, in order to process one more order; or
• Don’t do anything else which doesn’t provide long-term relief to your business.

These are all one-shot opportunities which won’t be available to cover the following payroll, the following month, or the following order. Save these opportunities until they actually can save your business, provide for your family, or lead to some other long-term benefit. Especially, don’t raid your retirement plans. In most cases, these funds are exempt from the reach of your creditors and can serve as a future lifeline for you.

That being said, let’s move on to the changes.

I’ve previously written about Subchapter V in  “New Benefits for Those in Financial Difficulty: The Small Business Reorganization Act of 2019.” Essentially, it provides a mechanism for speeding up the reorganizations of small businesses, which also could make it cheaper. However, those benefits come with tradeoffs which need to be thoroughly discussed with your attorney.

In fact, if you have any concern about financial problems down the line, you should speak with a professional well-versed in this area sooner rather than later. You want to avoid taking actions now which might limit your options in the future.

The CARES Act does more than simply provide Payroll Protection Plan loans and other financial assistance. It also makes temporary changes to the Bankruptcy Code and other federal statutes. It raises certain thresholds, extends deadlines, and takes other actions to make bankruptcy relief more available to small businesses and their owners.

The practical effects of hundreds of thousands of businesses suddenly unable to pay their bills will be subtle, but potentially huge. These could make it easier to negotiate with your creditors – allowing you to avoid a bankruptcy filing or at least to make the process more streamlined and less expensive.

Consider landlords. In a good economy, they can play hardball with tenants, either by forcing payments to continue or by replacing them with new tenants. But now, with a huge number of tenants unable to pay and no one to replace them with, landlords will have to be more flexible, allowing tenants to pay less than the full amount due just to get some money coming in. Remember, landlords must answer to their own creditors, and some money coming in is better than nothing.

Or consider banks and other lenders. In a good economy, they may foreclose on their collateral[3] but under today’s circumstances, banks don’t want to have a large number of foreclosed properties on their books because it can reduce their ability to make new loans.

Even if your business is forced to file a Chapter 11 bankruptcy, this new reality comes into play. Although the Bankruptcy Code provides all the parties in interest with various powers, the primary purpose of Chapter 11 is to bring all of the parties to the same place at the same time and force them to speak with each other.

Over time, the Chapter 11 process has become more confrontational as each party wields its powers to gain advantage over the others. This focus on self-interest has caused reorganization cases to drag on longer than necessary and run up huge fees and costs for all involved. This is particularly hard on the debtor who filed Chapter 11 in the first place because it didn’t have any money!

Perhaps that trend will be reversed, and the parties will realize that the success of the reorganization will put more money in the creditors’ pockets than a failure. If creditors stop focusing only on their own self-interest and cooperatively look at the larger picture, everybody would come out ahead, companies would remain in business, and jobs would be saved.

That would be the best way to restart the economy.

For additional COVID-19 related information, go to our Coronavirus/COVID-19 Resource Center.

[1] As of 4/17/20, the first round of payroll protection loans had been distributed to more than 1,600,00 recipients.

[2] The CARES Act makes it easier to access your 401K, by allowing limited withdrawals without penalties if the account is replenished within three years, or permitting loans up to 100% of the balance, with repayments deferred by a year.

[3] The CARES Act provides some foreclosure relief for residential borrowers [but not commercial?]

Posted by Attorney A. Thomas DeWoskin. DeWoskin practices in the areas of bankruptcy, creditor’s rights, and commercial law. He represents creditors, as well as business debtors, and individuals with difficult or unusual financial situations. DeWoskin served as a bankruptcy trustee in the Eastern District of Missouri for more than 35 years. 

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