What's the Point of Chapter 11 Bankruptcy?
What do United Airlines, General Motors, K-Mart, and Lehman Brothers all have in common? They are all corporations that have filed for Chapter 11 bankruptcy. Chapter 11 bankruptcy is designed to help struggling businesses and individuals to restructure their finances.
This is done through a court-supervised process where debtors and creditors work toward an agreed upon “plan of reorganization.” Chapter 11 bankruptcy tries to make debt payments more affordable while also maximizing the return to creditors.
How Does Chapter 11 Bankruptcy Work?
First, Chapter 11 bankruptcy begins with filing a petition in bankruptcy court. Generally, Chapter 11 cases are voluntary. This is when the debtor takes the initiative to seek bankruptcy relief. Occasionally, the case will be involuntary, where creditors band together to file against a defaulting debtor.
Unfortunately, Chapter 11 bankruptcy can be costly and timely, since the legal complications can get quite complex. There is no debt limit in a Chapter 11 case, and there is no time duration limit either. However, most cases take about six months to two years to come to a close. While Chapter 11 is probably the most flexible of all the chapters, this flexibility generally makes it a more expensive option.
In most Chapter 11 bankruptcy cases, no trustee is appointed. If the debtor is a business, they will continue to operate in its ordinary course, with restrictions on business activity monitored by the court. But, the court can appoint a trustee to take over operations from the debtor if it finds sufficient cause, such as fraud, dishonesty, or incompetence.
Essentially, Chapter 11 bankruptcy is a contract between debtors and their creditors on how they will operate and pay obligations in the future. So, most plans will provide for some downsizing of the debtor’s organizations to reduce expenses and free up assets.
Rarely, a Chapter 11 bankruptcy plan will demand a full and immediate payment to all the creditors. Instead, creditors are entitled to vote on whether to accept a proposed Chapter 11 plan. A priority is placed on certain creditors and so the plan provides an ordered repayment structure.
Filing for Chapter 11 Bankruptcy as an Individual
While Chapter 11 isn’t normally associated with individuals, it is definitely available as an option! Like Chapter 13, Chapter 11 bankruptcy allows the debtor to reorganize their debts. If you exceed the debt limits of Chapter 13, and are of a higher income, Chapter 11 bankruptcy could be best for you. Traditionally, these are the reasons people file for Chapter 11.
However, if you have low disposable income, and are looking for an option that has no limit on debts, you may want to consider Chapter 7 bankruptcy.
Chapter 7 is the most common type of bankruptcy filed by individuals in America. See if you qualify for Upsolve, a nonprofit that helps low-income Americans get a fresh start through Chapter 7 bankruptcy at no cost.
Additionally, if you’re a debtor that owns a lot of property, but has little or no income, Chapter 11 may be a suitable option as well. This is because under Chapter 11, you don’t have to make payments immediately after the plan is confirmed.
The court will allow payments to be made from the proceeds of the sales of your real estate assets. You may also be allowed to delay mortgage payments. Basically, a Chapter 11 bankruptcy will give you the time you need to sell property and pay off your debts. Just make sure that the property has enough equity in it.
Filing for Chapter 11 Bankruptcy as a Business
Chapter 11 bankruptcy is usually filed by corporations, partnerships, and limited liability companies. These debtors can file either where their primary place of business is located, or where their business is incorporated/organized.
The business debtor will usually remain possession of its assets, and operate the business under the supervision of the court. For example, the bankruptcy court must approve any sale of assets, the retention of attorneys, entering or breaking leases of property, etc.
The size of the business matters too. Chapter 11 bankruptcy may be particularly helpful to small business owners or real estate investors with multiple properties. However, small businesses also don’t have as high of a chance of maintaining profit following the bankruptcy.
So, the court may decide to dismiss the Chapter 11 case or have it converted to a Chapter 7 case. In fact, most Chapter 11 cases will be dismissed or converted.
Larger corporations have a better chance of survival following bankruptcy. Although, the rate of success is already pretty low – at around 10-15%. The complex rules and requirements increases the costs to file. But luckily, the other chapters can provide viable options for taking care of your debt.
Chapter 11 vs. Chapter 7 and Chapter 13
Individuals usually file under Chapter 11 bankruptcy if they have a) too much debt for Chapter 13 or b) too much income for Chapter 7. Most people file under the latter two because Chapter 11 can get costly. In fact, in 2010 over 100 times more people filed for Chapter 7 and 13 than Chapter 11 bankruptcy! However, depending on your circumstances, Chapter 11 bankruptcy can be a better option for you.
Firstly, a Chapter 13 case cannot exceed 5 years. With Chapter 11, there is no time limit. There is also no debt limit in Chapter 11. In addition, both Chapter 13 and Chapter 11 bankruptcy may allow you to keep certain assets you would lose under Chapter 7 bankruptcy. For example, if you want to keep your primary residence and are behind on mortgage payments, you cannot file a Chapter 7 to prevent the loss of your home.
Also, if you’ve received a Chapter 7 discharge within 4 years of the petition date, or a Chapter 13 discharge within 2 years, you cannot receive another discharge under Chapter 13. However, you can still file for Chapter 11 bankruptcy and receive a discharge, even if you just received discharges under Chapter 7 and 13.
Finally, Chapter 11’s flexible timeline can give you the time you need to properly reorganize liabilities that are considered non-dischargeable. If you’re an individual, this could be child support or student loans. If you own a business, one of these debts may be payroll taxes. If your business fails to pay these taxes, you can be held personally liable. Fortunately, Chapter 11 bankruptcy will stop penalties and fees from accruing on these types of unpaid taxes.
In conclusion, Chapter 11 bankruptcy offers a streamlined plan that allows you to keep possession of your assets, catch up on your secured debt, and discharge your unsecured debt at the finish of your case. While mostly used by businesses, it can provide a lifeline for individuals in certain circumstances.
Whether you’re a business or an individual looking for financial relief, it’s important to get familiar with the different chapters of bankruptcy. Chapter 7 and Chapter 13 bankruptcies are other options you can use to get a fresh start. If you’re a low-income American, see if you qualify for Upsolve, a nonprofit that was funded by Harvard Law School for helping people like you get a fresh start through Chapter 7 bankruptcy at no cost.