FAIR LENDING/MORTGAGES/BANKRUPTCY/TECHNOLOGY
August 14, 2024
Prior to 2019, Chapter 7 liquidation was the primary form of bankruptcy for small business; the company ceases operation, and the debt, as a practical matter, is non-collectible, even though there is no discharge.
That changed somewhat with the Small Business Reorganization Act of 2019 (SBRA), enacted on August 23, 2019, with an effective date of February 19, 2020. It is also known as “Subchapter V Small Business Bankruptcy.”
The biggest difference between Subchapter V and the previous Chapter 7 for small business is that the business gets a discharge. Like Chapter 11 bankruptcy for large businesses, Subchapter V debtor can remain in operation, subject to completing the plan of reorganization.
This became extremely important when, less than one month after the law became effective, the nationwide COVID lockdowns went into effect, and the business world was turned upside down.
Most of the courts that have dealt with the issue are in agreement that Subchapter V debtors receive a discharge, and receive the benefit of outright cancellation of the “discharged” debt. This includes the Circuit Court for the Western US, Hawaii, Alaska, & Guam (the Ninth Circuit Court of Appeals). See, for example, Lafferty v. Off-Spec Solutions LLC (In re Off-Spec Solutions LLC), 651 B.R. 862 (B.A.P. 9th Cir. July 6, 2023).
However, one (1) of the Federal Appeals (Circuit) Courts to consider the issue has said “not so fast,” and refused to give the small business a discharge.
In Cantwell-Cleary Co. v. Cleary Packaging LLC (In re Cleary Packaging LLC), 36 F.4th 509 (4th Cir. June 7, 2022), the Fourth Circuit Court of Appeals [the federal appellate court for Texas, Louisiana, and Mississippi] held that the SBRA did not discharge the debts “of the kind” specified in 11 USC Sec. 523 (a), which discusses the kinds of debts that are generally not cancelled by bankruptcy (e.g., debts related to fraud, malice, family support, etc.).
Now, the Fifth Circuit is considering the same issue, i.e., can a small business propose and complete plan of reorganization, without creditor approval (a non-consensual plan), and thereby receive a discharge? The case on appeal is Avion Funding LLC v. GFS Industries LLC (In re GFS Industries LLC), 647 B.R. 337, 344 (Bankr. W.D. Tex. Nov. 10, 2022).
The District Court judge (the bankruptcy court) reviewed the Fourth Circuit’s opinion in Cleary, but disagreed, and concluded that Subchapter V companies are not proper defendants in dischargeability actions.
In other words, according to the Texas bankruptcy judge, small businesses in SBRA cases cannot be sued to prevent discharge (at least not simply because small businesses don’t qualify for discharge on the basis of being a small business; “alter ego” liability might present a different legal question).
Although the language of the SBRA is straightforward (even if not perfect), there now looms the possibility that there could be a further split in Court of Appeal authority on the SBRA, which could lead this crucial COVID-era relief to a re-hearing in the US Supreme Court, which is friendly to big business, but has been hostile to anything that seems to favor “relief” for the less wealthy.
THIS POST DOES NOT CONSTITUTE LEGAL ADVICE; PLEASE CONSULT AN ATTORNEY
