Chapter 11 is the section of the Bankruptcy Code that permits corporations and certain individuals to reorganize their financial affairs by paying off certain debts.
In most instances, Chapter 11 is a method by which small businesses can reorganize and remain in control of their assets and affairs. There are certain obstacles to filing. For one, Chapter 11 is costly. The court filing fee alone is $1,039 as of this writing. Moreover, there are ongoing financial reporting requirements that are burdensome; essentially, once they file for Chapter 11 relief, companies must file a monthly financial report with the Court that itemizes all of their income and each of their expenses. If a business is not accustomed to this level of financial rigor, then Chapter 11 is not a viable alternative.
On the other hand, Chapter 11 can provide instant relief to the collection efforts of creditors, including taxing bodies. The corporate debtor then has a period of time in which to propose to the Court a Chapter 11 Plan of Reorganization. In that Plan, the debtor propose how each class of creditors (i.e., taxing bodies, secured creditors like mortgage companies and car lenders, vendors and unsecured creditors) are to be treated. In many cases, the unsecured creditors can be repaid at a much lower percentage rate.
Additionally, reorganization can permit corporate debtors to reject leases that are no longer adding value to their businesses. A Chapter 11 filing can also free up cash that is being used to pay off old debt.
Chapter 11 is a consensual process and the creditors are entitled to vote their approval as to the Reorganization Plan. If they vote accordingly, then the Court will approve the plan and the Debtor can emerge from bankruptcy. In general, the reorganization plans must be finalized within five years.
In all cases, thorough consideration of the company’s financial history and circumstances must be made prior to filing a Chapter 11 case. In many instances, it may make more sense to liquidate the corporation through a Chapter 7 filing and simply reorganize with a new corporate entity.