Subchapter V Makes it Easier to Navigate Chapter 11

Admin on June 30, 2021 Posted in Bankruptcy Law, Blog

The number of bankruptcy cases in the last few years has risen substantially, which has led many people to consider bankruptcy as a method of taking control of debts. While the COVID-19 pandemic impacted countless workers, hotel owners and workers have been some of the most negatively impacted. This is because occupancy rates at hotels decreased sharply in 2020.

Among the options for pursuing bankruptcy, Subchapter V is not available for debtors who only own one property. Based on a recent bankruptcy decision from a Florida court, hotel owners are not single asset real debtors because they provide services beyond renting rooms and consequently can pursue Subchapter V. This decision will likely lead to an increase in the number of debtors who are capable of pursuing Subchapter V to take control of debts. 

How the Case Arose 

The case involved a disagreement between an Econo Lodge Inn & Suites and the State Bank of Texas, which functioned as the hotel’s primary creditor. The bank tried to prevent the Econo Lodge from pursuing Subchapter V. 

How Bankruptcy Law Applied to the Case

Under the bankruptcy code, single asset real estate includes real property that meets several requirements like:

  • The property must have fewer than four units
  • The property must generate substantially all of its gross income from a non-farming debtor 
  • No substantial business must be conducted on the property other than operating the business and related activities 

The court found that besides owning property, the debtor employed 15 people at the property, cleaned the property daily, provided breakfast, had a pool and fitness center onsite, and provided additional services. The court determined that these services went past operating property and associated activities. 

The Bankruptcy Court’s Decision

In reaching its decision, the court compared the differences with apartment buildings where leases are signed and little additional assistance is required, to hotels that often involve substantially more daily activities like preparing for guests, cleaning after guests leave, and providing guests with necessary amenities during their stay. Ultimately, the court found that if these additional services do not generate additional income, they can remove a hotel from the single asset real estate category.

How the Case Applies to Others

The lesson of this case is that according to at least bankruptcy courts, hotel owners and associates pursuing bankruptcy can consider filing under the more debtor-friendly Subchapter V. The Florida bankruptcy court’s decision will likely prove persuasive in other Subchapter V decisions and could lead to an increase in the number of business owners who pursue bankruptcy under this method. Financial institutes as well as other tourism related creditors would do well to remember this case during bankruptcy negotiations.

A Quick Guide to Navigating Subchapter V

For small businesses, pursuing bankruptcy can be a costly and time-intensive process. Subchapter V, however, helps some companies escape debt. No two bankruptcy cases are the same, however, and you need to be sure to plan properly if you are pursuing Subchapter V. Here are some important details to consider about the bankruptcy process:

  • What Subchapter V is. Subchapter V is a form of reorganization bankruptcy utilized by small businesses. Subchapter V became effective at the beginning of 2020 and amended the existing rules for small business reorganization under the Bankruptcy Code’s Chapter 11. The goals of Subchapter V are to speed up reorganization and reduce bankruptcy costs. 
  • Why Businesses Use Subchapter V. Small businesses as well as some individuals decide to proceed under Subchapter V if either they were engaged in business or commercial activity with either total secured or unsecured debtors of no more than $2,725,625. This debt limit was increased to $7,500,00 due to the CARES (Coronavirus Aid, Relief, and Economic Security Act) Act. 
  • Requirements for Subchapter V. Subchapter V debtors must show that at least half of their pre-petition debts were due to either business or commercial activities. Businesses that derive all income from the operation of a single piece of real estate do not qualify for Subchapter V. 
  • How Subchapter V is initiated. The Subchapter V process is commenced by initiating a Chapter 11 bankruptcy petition with a bankruptcy court. After filing a Chapter 11 petition and electing Subchapter V, a small business debtor must file several recent documents including balance sheets, cash flow statements, federal tax returns, statements of operation, or provide a sworn statement that these documents do not exist. Only a Subchapter V small business debtor can file a reorganization plan, but it must file this plan within 90 days of the date that it files its petition.
  • Trustees in Subchapter V. A trustee is appointed to every Subchapter V case to help small business debtors create reorganization plans. Subchapter V trustees function in similar roles to Chapter 13 trustees because they can review a small business debtor’s finances and can be heard by a bankruptcy court at a confirmation hearing. Subchapter V trustees can also be subject to proofs of claim initiated by creditors and can even operate as small business debtors if removed as a debtor-in-possession. After a Subchapter V plan is substantially consummated, a Subchapter V trustee’s role is terminated.
  • The Advantages of Subchapter V. Various advantages exist to Subchapter V. One, reorganizing under Subchapter V is less expensive for debtors because certain administrative costs that a small business normally incurs during Chapter 11 are eliminated. Furthermore, the requirement for the appointment of an official committee of unsecured creditors has been eliminated in Subchapter V. Additionally, the requirements for obtaining debtor’s counsel were modified under Subchapter V to allow counsel to represent debtors notwithstanding the existence of unpaid prepetition fees in amounts less than $10,000. This can prove advantageous in situations where a debtor cannot delay a bankruptcy filing while accumulating cash to pay attorney’s fees.

Speak With an Experienced Bankruptcy Attorney

If you have questions or concerns about the bankruptcy process, one of the best things that you can do is to contact a knowledgeable lawyer. Schedule a free case evaluation with attorney Melanie Tavare today.