In a year of health challenges and financial distress to many individuals and businesses affected by the pandemic, the year 2020 brought some significant changes to bankruptcy laws. Some of these changes were in place prior to the pandemic; others were a direct response to the pandemic with the goal of helping struggling businesses and individuals. Ahead, we can likely expect further changes to the Bankruptcy Code with the incoming Congress.
Small Business Reorganization Act of 2019 (SBRA)
SBRA was a new bankruptcy law in August 2019 that went into effect on February 19, 2020. Under this new law, small businesses that have debts under $2,725,625 can take advantage of a new and “easier” Chapter 11 bankruptcy reorganization process. A new “Subchapter V” component of the Chapter 11 reorganization process was added to the Bankruptcy Code. The goal of Subchapter V is to reduce the time and expense of small business reorganizations. A number of components in a typical Chapter 11 bankruptcy filings have been eliminated under Subchapter V including US Trustee fees, a separate disclosure statement, and a creditor’s committee. One new addition is a Subchapter V Trustee, a person with business expertise who shall “facilitate the development of a consensual plan of reorganization.”
Coronavirus Aid, Relief and Economic Security (CARES) Act
Enacted on March 27, 2020 as part of the $2T economic stimulus program for economic relief for businesses and individuals, the CARES Act expanded the debt limit under SBRA from $2,725,625 to $7,500,000. This component of the CARES Act expires in one year on March 27, 2021. These changes were intended to temporarily expand the number of businesses that could take advantage of the Subchapter V type of bankruptcy reorganization.
The CARES Act also made some modifications to the Bankruptcy Code by permitting chapter 13 cases that had previously been limited to up to 5 years on repayment plans to be modified up to 7 years. Further provisions in the CARES Act provide that stimulus relief funds to individuals are exempt and are to be not considered income for bankruptcy purposes.
New Bill Pending in Congress That May Significantly Change Consumer Bankruptcy
In December 2020, the Consumer Bankruptcy Reform Act of 2020 was introduced that would significantly change the administration of consumer bankruptcies in the future. The proposed legislation would eliminate Chapter 7 and Chapter 13 bankruptcy filings and replace them with a new Chapter 10. This one chapter of bankruptcy filings would allow a consumer debtor to have three types of payment plans, provide for minimal, if any, payback to unsecured creditors, and allow for the discharge of student loan debt and other currently non-dischargeable obligations. Absent a showing of “undue hardship” (a difficult standard to meet), student loan obligations currently are considered nondischargeable. While this proposed legislation is not yet law, there seems to be congressional support to change the rules of bankruptcy for individuals in the coming year.
Bankruptcy Case Filings
Total bankruptcy filings during 2020 decreased 30 percent from 2019 numbers in a large part due to economic stabilization and stimulus measures provided by the government in response to the COVID-19 pandemic. While consumer bankruptcy cases were significantly down, commercial bankruptcy filings increased 29 percent during 2020. Much of the decrease in consumer bankruptcy filings is likely attributed to eviction and foreclosure moratoriums currently in place. Further, many courts across the country have implemented measures that have stay or delayed collection litigation. These creditor rights actions are the common impetus for individuals to consider filing for bankruptcy protection and placing many of the actions on hold for the moment has also resulted in individuals holding off filing bankruptcy.
What to expect in 2021
The sunset provision in the CARES Act that extends the debt limit in a Subchapter V case expires on March 27, 2021. Unless that deadline is extended, there may be a significant number of businesses with debts of more than $2.75M but less than $7.5M that will be prompted to consider filing under the “easier” bankruptcy option prior to the March deadline. This is likely to increase commercial filings during the next few months.
If student loan debt becomes dischargeable under the new proposed bankruptcy law (or a different proposed law) in the coming year, it is very likely that consumer bankruptcy cases will significantly increase. There is likely an artificial suppression of consumer bankruptcy case filings going on given that many of the most common financial distress events (evictions, foreclosures, collection litigation) are more or less on hold at the moment. Even if a change to student loan debt discharge does not become a reality, there seems to be a day of reckoning coming this year when deferred mortgage payments and rent payments are likely to come due and credit litigation gets back on track.
While much of the government assistance in response to COVID-19 has been focused on preserving jobs and housing, unintended victims in this pandemic response have been landlords and other creditors which been forced to put their collection rights on hold due to mandatory moratoriums and court proceedings. Those delays and accommodations are generally in the form of delay and deferral, not an outright forgiveness of the obligation. At some point, those restrictions will be lifted and a backlog of litigation will recommence; likely resulting in many individuals and businesses turning to bankruptcy options as protective measures.
As we find our way out of the pandemic, relief efforts and moratoriums will be discontinued or lifted. For many businesses and individuals that remain in financial distress, it may cause an increase in bankruptcy case filings. 2021 may also include some statutory changes that could also result in an increase in bankruptcy filings.
Michael A. Steel is an attorney with the Financial Reorganization and Creditors Rights team at Brennan, Manna & Diamond. Please feel free to reach him at masteel@bmdllc.com or (330) 374-7471.