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Bankruptcy Isn’t a Sign of Failure — It’s a Strategy. Here’s Why It Might Be The Right Move For You

By March 29, 2024No Comments

(This column originally appeared in Entrepreneur)


When it comes to bankruptcies in the U.S., there’s good news and bad news.

The good news is that 2023 was the third-lowest year for bankruptcy filings and 42% below the pre-pandemic levels of 2019. Excluding 2021 and 2022 — where many businesses received pandemic-related assistance — bankruptcies were at the lowest historic levels since 1997.

But the bad news is that they’re on the rise. According to data from the global legal consulting firm Epiq AACER and the Administrative Office of the U.S. Courts, bankruptcy filings in the U.S. increased by about 17 to 18% in 2023 compared to the prior year, with January marking “18 consecutive months that total, individual, and commercial bankruptcy filings have registered monthly year-over-year increases.” And the actual numbers could very well be higher when you consider the unreported number of small business owners who shutter their doors, settle their debts (or not) and walk away from their firms without making any formal filings.

Perhaps, but that’s nothing new. And, given recent changes to the bankruptcy laws that help small businesses, this may not be the best strategy either.

Is this a warning sign of a potential recession? Maybe. But more importantly, it’s a red flag to businesses that may be teetering on the brink. You’re part of a growing number. Thanks to recent changes in the bankruptcy laws that help small businesses, you don’t have to throw in the towel yet.

Related: Facing Financial Trouble? Understand the Difference Between Insolvency, Liquidation, Bankruptcy and Administration

The legislation I’m referring to is called the 2019 Small Business Reorganization Act, which established a new subchapter V of the Chapter 11 reorganization section of the Bankruptcy Code. It makes it much easier for small businesses to stay in business rather than calling it quits. The law significantly reduces the paperwork, time frame, bureaucracy and — most importantly — the costs for smaller companies that file for bankruptcy, giving them more time to get back on their feet.

It’s “a fantastic accomplishment by the federal government and the National Bankruptcy Conference, American Bankruptcy Institute and National Conference of Bankruptcy Judges, all of whom had a hand in drafting and guiding the act to be signed into law,” wrote lawyer Kyle F. Arendsen in the National Law Review. “Struggling small businesses should consider it a potential remedy to their financial distress.”

To qualify, your business must have less than $7.5 million in outstanding debts, which increased from its original $2.75 million limit thanks to pandemic-era legislation. However, this increased limit is set to expire in March of this year, and there is no indication as to whether or not it will be extended.

Yes, you will likely still have to hire an attorney because the process generally requires one. However, the time an attorney needs to spend will be much less compared to a regular bankruptcy. You won’t need a credit “committee” as required before. Instead, you’ll assign a trustee, and unlike in other Chapter 11 cases, the United States Trustee Program appoints a trustee in each Subchapter V case. The trustee’s responsibility is to work with your business and your creditors and come up with a mutually agreed plan of reorganization.

You’ll have 90 days to come up with this plan with a requirement that all debts must be paid back within three to five years. If you and your creditors can’t reach an agreement, then the law has a pre-established payback formula that will figure in your disposal income. All the other documentation normally required has been significantly reduced. You continue to operate your business as always. Your personal assets, such as your house, won’t be in jeopardy.

Since its inception, the Justice Department has found that Subchapter V cases have approximately doubled the percentage of confirmed reorganization plans and cut in half the percentage of plans that were dismissed. The Act also contributed to a shorter time to confirmation compared to other non-subchapter V cases.

Related: 6 Steps Resilient Entrepreneurs Take to Rebound From Bankruptcy

There are some downsides to consider. Your legal fees will be much lower than a typical filing but still not insubstantial — my clients who have gone through the process report that they still spent about $15,000 on average. Your credit score will likely be negatively impacted by your bankruptcy filing. Your friends, neighbors and business colleagues will likely hear of your situation, which could make for some awkward moments at your kid’s soccer game. Some suppliers to whom you owe money will not be happy. It will be harder to get financing in the future. All of these factors should be discussed with a bankruptcy attorney before making any moves.

The good news is that the new legislation seems to be helping small businesses.

“Overall, subchapter V appears to be working as intended,” the U.S. Courts reported. “Although more data is needed to fully understand the impact of invoking the subchapter on both the short- and longer-term prospects of financially distressed small businesses, the initial results are promising. Small businesses appear now to have a restructuring tool that is both affordable and effective for addressing their financial needs.”

To be clear, declaring bankruptcy is a last resort. Before taking that step, you should evaluate all other forms of financing, from private lenders (be careful of high-interest rates) to friends and family. You should assess your business’s long-term prospects. You should look in the mirror, consider your mistakes, and be honest with yourself about whether you’ve got the capabilities to steer your company into future profitability. Maybe a better path is to sell your business and move on. Maybe not.

But declaring bankruptcy isn’t admitting defeat. It’s a business strategy. It’s a chance to right wrongs, take a breath, and reorient your direction. Countless larger companies — from Apple to General Motors — have emerged from bankruptcy to become stronger than ever. You can, too.

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