Chapter 11 bankruptcy is the most complex chapter of bankruptcy and can be used for any business entity, corporation, LLC, partnership or individuals to reorganize debt. Toys-R-Us, Sears and Gymboree have all filed for chapter 11 in the past few years. Even though large corporations file under Chapter 11, Chapter 11 can be utilized by small to medium sized business as well as individuals.
Here are a few examples when a Chapter 11 can be helpful:
- An individual who has too much debt over the chapter 13 debt limits but still wishes to reorganize their debts;
- A business owner who does not wish to liquidate the business under Chapter 7.
- A business owner who owns a few businesses and wishes to reorganize the debts of one or more businesses.
In What Jurisdiction is a Chapter 11 Filed?
Under 11 U.S.C. § 1408, a business Chapter 11 bankruptcy is filed either in the jurisdiction in which the primary place of business is located, or where the business is incorporated or otherwise formed. For example, if the business is organized as a Maryland Limited Liability Company but its principal place of business is in Delaware, the business can either file in Maryland or Delaware. Similarly, if the business is organized in Delaware but has its principal place of business in Maryland, the business can either file in Maryland or Delaware.
For an individual, under 11 U.S.C. § 1408, a Chapter 11 is filed where the debtor “has his, her, or its domicile, residence, principal place of business… or principal assets.” Domicile is usually defined as the location which the debtor considers their present permanent home with the intention of living in that jurisdiction. Residence is the jurisdiction where the debtor currently resides. For example, if someone moves from Maryland to Delaware temporarily to care for a sick family member but still considers their domicile Maryland, they can file in Maryland.
The exemptions that you can use in bankruptcy are determine by the debtor’s domicile – the location which the debtor considers their present permanent home with the intention of living in that jurisdiction. In order to use a state’s exemptions, the debtor must have lived in that state for 730 days (2 years). If you have not been domiciled in the state for more than 730 days, the appropriate exemptions are the state which you lived in for 180 days prior to the 2-year period.
Chapter 11 Schedules and Documentation
Similar to Chapter 7 and Chapter 13, the documentation for a chapter 11 requires a complete picture of the debtor’s financial situation, including a review of all of the debtor’s assets, claims, leases, income and expenses, prior filings and a Statement of Financial Affairs.
For a business chapter 11, this may require a review of inventory, accounts receivable, accounts payable, investments, liens, loans, profit & loss statements, equity ownership and other financial documentation relevant to the business.
Unlike a chapter 7 or chapter 13 in which a trustee is appointed to oversee the case and distribute assets to creditors, in a chapter 11 the debtor manages their own financial affairs and under the Bankruptcy Code is called the “Debtor-In-Possession.” The Debtor-In-Possession is a fiduciary for the creditors and has heightened duties for its creditors. In some circumstances, such as fraud, dishonesty, incompetence, and gross mismanagement of the debtor’s affair, the court can appoint a trustee to oversee the chapter 11.
Limitations on the Debtor-In-Possession in Chapter 11
Although the debtor manages their own financial affairs in a chapter 11, the debtor must still seek court approval for certain business transaction, such as:
- Sale of assets, such as real estate;
- Entering or breaking a lease;
- Secured financing during the pendency of the bankruptcy;
- Modifying contracts;
- Retaining professionals to assist in the management of the debtor’s business.
The bankruptcy court must ensure that transactions that the Debtor-In-Possession seeks to undertake meet the requirements of Bankruptcy Code before they are initiated.
The Chapter 11 Plan of Reorganization
In a chapter 11, the debtor proposes a chapter 11 plan to restructure its debts and how it wishes to treat creditors in the chapter 11 plan. As part of the chapter 11 plan, the debtor must prepare a disclosure statement that must be approved by the court and is sent to creditors as well as ballots for the impaired creditors to vote on the chapter 11 plan. The chapter 11 plan proposes different classes of creditors who are treated differently under the Bankruptcy Code and receive different treatment terms in the chapter 11, such as secured creditors, priority unsecured creditors and general unsecured creditors. A chapter 11 plan can be crammed down over the objection of secured creditors if the plan is “fair and equitable” to the creditors, such as if the chapter 11 plan allows a secured creditor to retain its lien on assets securing the claim and pays the creditor in full over time for the value of its claim. Additionally, at least one impaired one creditor must vote to accept the plan.
A chapter 11 is the most complex chapter, but it is also the most flexible. A business cannot file under chapter 13 and therefore chapter 11 is the only option for businesses that wish to reorganize. A chapter 11 also may be a good option for an individual who has too much debt to file under chapter 13 and wishes to reorganize their debts. If you have questions about chapter 11, please call Steiner Law Group at (410) 670-7060.