New codes will not dramatically affect a business’s ability to stay afloat in a crisis – the economy will
Word on the street is that the recent bankruptcy law changes (most of which went into effect Oct. 17) will make sweeping changes to bankruptcy filings. While that may be the case for consumer bankruptcy cases, local experts say that for business bankruptcy, things will remain pretty much the same, with the major change being increased costs associated with filing for bankruptcy.
"I don’t see it as an overwhelming change for small businesses," said John Nellor, partner at Vancouver-based law firm Nellor Retsinas Crawford PLLC.
Nellor outlined some of the more important changes relating to small business bankruptcy, including streamlining the filing process, reducing the time allotted for certain steps, and an increasing number of forms, as well as increased fees. The cost of filing for Chapter 7 rose from $209 to $274, while the cost of filing for Chapter 11 increased from $839 to $1,039. However, the cost of filing for Chapter 13 decreased slightly from $194 to $189.
The cost of filing a Chapter 13 is much less than filing a Chapter 11, and the filing fee is only the tip of the iceberg – there are also miscellaneous fees involved during the process, as well as quarterly fees that are charged as a percentage of the debt owed, plus attorney fees. Vancouver attorney Randy Stewart said that every year he encounters sole proprietors that would have been eligible to file for Chapter 13 being pushed into a more expensive Chapter 11, or a Chapter 7, because they incorporated without a good reason.
"When I ask them why they incorporated, they say ‘my accountant told me to!’" said Stewart.
But an incorporated business, even if it is just a one-person shop, is ineligible for Chapter 13 filing. Stewart said that the total cost of pursuing a Chapter 13 bankruptcy ranges from $2,500 to $7,500, while a Chapter 11 can run $15,000 to $25,000. The high cost of a reorganizing through Chapter 11 can price a company out of that approach, and force them to liquidate their business through a Chapter 7 filing instead, said Nellor.
Nellor also noted that the time limits on "automatic stays" for creditors have been reduced. So, for example, under the new law, a creditor may be able to pursue collection or other legal action against a bankrupt business sooner than under the old law.
For larger companies, other changes in the bankruptcy law take precedence. For instance, the new law caps raises to key managers and severance packages, and ties these benefits to what is offered other full-time workers and nonmanagement workers.
Other changes that may affect larger companies filing bankruptcy include:
• Suppliers who provided goods to the company within 20 days of the filing are now considered administrative expenses instead of as unsecured debt, and therefore have a stronger claim for getting paid.
• A bankrupt firm now has only 18 months to file its own reorganization plan (they used to have an almost unlimited time); after the 18 months is up, other parties can submit their own plans to the court for approval.
Certainly for Clark County, the changes to sole proprietors filing Chapter 13 bankruptcies will have a much greater effect than those changes affecting Chapter 11 filings. For example, according to U.S. Bankruptcy Court, Western District of Washington data, in January 2005 there were no Chapter 11 filings in Clark County; in August 2005, only two out of a total of 300 bankruptcy filings in the county were Chapter 11, and in September 2005, which had one of the highest total number of bankruptcy filings for the year – 403 – again there were zero Chapter 11s.
Only Pierce, King, and Snohomish counties had a higher total number of bankruptcy filings in September than Clark County, and the Western District of Washington Bankruptcy Court ranks 14th largest out of 94 as measured by total annual bankruptcy filings.
The changes in bankruptcy law will also affect law firms, said Nellor. Some lawyers may find the changes too complicated and will simply cease handling bankruptcy cases. Those who wish to keep up are now taking classes and reading voraciously.
"But we won’t really know (what’s involved) until we have to do it," said Nellor.
He pointed out that with a new law, there is virtually no case law to rely on, so interpretation of various regulations and rules will take some time to work out. There are also new processes and forms to master. Stewart thought some of the changes might actually make the attorney’s job easier, because now timeframes are more stringent and clearly laid out. Instead of having to nag a slow or disorganized client to complete a form or task, said Stewart, attorneys can just say "it’s the law."
But overall, said Nellor, the changes in the bankruptcy code won’t significantly affect large businesses, and will not be the deciding factor in the survival or demise of small businesses. Instead, he said, it is the general economic climate.
"The mom-and-pop shops have been dramatically affected over the last few years," he said.
If the economy continues to be sluggish, the adverse effects of the new bankruptcy laws will be just another nail in the coffin; on the other hand, if the economy improves, the bankruptcy laws will be even less important, since fewer small businesses would have to file for bankruptcy.
What’s in a Number?
There are several types of bankruptcy, referred to by their chapter number in the bankruptcy law:
• Chapter 7 is often referred to "liquidation bankruptcy," in which the individual or company asks the bankruptcy court to wipe out (discharge) the debts owed. The business is non-existent at the end of the proceedings.
• Chapter 9 is called municipality bankruptcy, and is used by cities and counties to resolve municipal debts. It is uncommon – only 500 such filings have been made since this type of bankruptcy’s inception in 1934.
• Chapter 11 is one type of "reorganization bankruptcy," in which you file a plan with the bankruptcy court proposing how you will repay your creditors – some in full, some in part, some not at all. It is the most common type of bankruptcy used by larger incorporated businesses, but is also available to individuals. The filing fees and attorney fees, and other fees are much higher than Chapter 13 costs.
• Chapter 12 is also a reorganization bankruptcy, and is almost identical to Chapter 13 – but is reserved for those whose debts (at least 80 percent) arise from the operation of a family farm. Like Chapter 11, you must use a lawyer in this type of bankruptcy case. Chapter 12 bankruptcy became a permanent part of the Bankruptcy Code on July 1 of this year.
• Chapter 13 is the final reorganization bankruptcy type, often referred to as "wage earner" bankruptcy. It is available only for consumers and sole proprietors of businesses – not incorporated businesses, partnerships, or corporations. In the case of a sole proprietorship, the determination of whether it is a consumer bankruptcy or a business bankruptcy is controlled by whether the majority of the debt is business-related.