Regarding eligibility for reorganization under the Small Business Reorganization Act, Subchapter V of chapter 11, Bankruptcy Judge Thomas B. McNamara of Denver took a novel approach.
Although the debtor must be currently engaged in business at the time of filing, he said that a fast-food worker flipping hamburgers would qualify if half of the debt arose from the “commercial or business activities of the debtor.” In other words, in the opinion of Judge McNamara, a debtor’s debt must arise from business, but the debtor isn’t required to be engaged in that business when she or he files under Subchapter V. The debtor isn’t even required to be an owner of the business in which she or he is employed on the filing date.
The Defunct Business
The debtor indirectly owned a business repairing hail damage to cars. He was the sole owner of a limited liability company that in turn owned 30% of the LLC that performed car repairs.
The repair business failed, terminated operations and turned the assets over to the secured lender, leaving the debtor on the hook for about $6.4 million in debt on the repair business that he had personally guaranteed. Losing income from the repair business, the debtor started working as an insurance salesman shortly before filing his chapter 11 petition and asking for treatment as a small business debtor under Subchapter V.
Totaling all of his scheduled debt, the debtor owed about $7.4 million, just below the $7.5 million cap for Subchapter V. Both before and after the chapter 11 filing, the debtor said he was engaged in “winding down” the repair business, although neither he nor the business was generating any income.
The U.S. Trustee and the primary secured creditor of the repair business filed a motion for a declaration that the debtor was not eligible for Subchapter V because he was not currently engaged in business. The Subchapter V trustee supported the debtor by contending that he was eligible.
‘Engaged’ Means Currently Engaged in Business
In his April 15 opinion, Judge McNamara first tackled the question of whether someone must be engaged in business on the filing date to be eligible for Subchapter V. The question turned on the statute, Section 1182(1)(A), which says that a small business debtor “means a person engaged in commercial or business activities,” other than owning single-asset real estate.
Agreeing with the objectors, Judge McNamara applied the test as of the filing date. However, he gave the debtor some leeway by examining the “relevant . . . circumstances immediately preceding and subsequent to the Petition Date as well as the Debtor’s conduct and intent.” He cautioned that courts should not add qualifiers “where Congress imposed none.”
Judge McNamara launched into a lengthy statutory and grammatical analysis. The statute and dictionaries, he said, give an “exceptionally broad” meaning to “commercial or business activities.”
Alluding to similar statutory language regarding eligibility for reorganization as a railroad or family farmer, Judge McNamara said that courts require “that a person or entity is presently doing something.”
Judge McNamara conceded that there was “some contrary authority,” citing In re Wright, 2020 WL 2193240 (Bankr. D.S.C. April 27, 2020), where the bankruptcy court held that Subchapter V is not limited to someone engaged in business on the filing date. To read ABI’s report on Wright, click here.
Previously, Judge McNamara said, the Collier treatise did not require being in business on the filing date. He noted, however, that “the treatise authors changed their minds and no longer argue against a temporal restriction as of the Petition Date.”
Finally, Judge McNamara cited “more persuasive subsequent case law” requiring engagement in business on the filing date. He cited In re Johnson, 2021 WL 825156, at *6 (Bankr. N.D. Tex. Mar. 1, 2021), and In re Thurmon, 2020 WL 7249555, at *3 (Bankr. W.D. Mo. Dec. 8, 2020). To read ABI’s reports on those cases, click here and here.
At that point, 20 pages into the opinion, it appeared as though Judge McNamara was on the cusp of tossing the debtor out of Subchapter V. Not so fast!
The debtor was still the direct or indirect owner of two LLCs, neither of which had been dissolved by the state. As a manager of both, the debtor continued to have corporate responsibility and was performing some services (albeit limited) in winding down the repair business.
Judge McNamara’s next assignment was to distinguish cases he had just cited approvingly, such as Johnson and Thurmon. In Johnson, he said, the businesses had been “dissolved and no longer existed.” Thurmon was different because the debtor before Judge McNamara still owned two LLCs, one of which was not liquidated and was looking for new business.
The Blockbuster
Two pages from the end, Judge McNamara dropped the blockbuster, based on his understanding of the statute’s “exceptionally broad” meaning given to “commercial or business activities.” He held that being a “wage earner” selling insurance for someone else still constitutes “commercial or business activity.”
Judge McNamara saw “no reason that ‘commercial or business activities’ are somehow reserved only for business titans, company owners, or management.” In other words, he said that “virtually all private sector wage earners may be considered as ‘engaged in commercial or business activities.’”
Judge NcNamara nonetheless cautioned that “not . . . every private sector wage earner is eligible for relief under Subchapter V of the Bankruptcy Code. Not at all.” More than 50% of the debt must have arisen from “the commercial or business activities of the debtor,” as required by Section 1182(1)(A).
“The typical hamburger artist, earning just minimum wage, will almost never be putting his own capital at risk and incurring debts which arise from his work. So, Subchapter V will not be for everyone,” Judge McNamara said.
The 26-page opinion boiled down to two significant facts: (1) More than half of the debt was attributable to the debtor’s guarantee or his company’s obligations, and (2) the debtor was employed selling insurance, although for a company in which he was only an employee and had no ownership interest.
Judge McNamara overruled the eligibility motion and permitted the debtor to proceed toward confirmation.
Regarding eligibility for reorganization under the Small Business Reorganization Act, Subchapter V of chapter 11, Bankruptcy Judge Thomas B. McNamara of Denver took a novel approach.
Although the debtor must be currently engaged in business at the time of filing, he said that a fast-food worker flipping hamburgers would qualify if half of the debt arose from the “commercial or business activities of the debtor.” In other words, in the opinion of Judge McNamara, a debtor’s debt must arise from business, but the debtor isn’t required to be engaged in that business when she or he files under Subchapter V. The debtor isn’t even required to be an owner of the business in which she or he is employed on the filing date.
The Defunct Business
The debtor indirectly owned a business repairing hail damage to cars. He was the sole owner of a limited liability company that in turn owned 30% of the LLC that performed car repairs.
The repair business failed, terminated operations and turned the assets over to the secured lender, leaving the debtor on the hook for about $6.4 million in debt on the repair business that he had personally guaranteed. Losing income from the repair business, the debtor started working as an insurance salesman shortly before filing his chapter 11 petition and asking for treatment as a small business debtor under Subchapter V.
Totaling all of his scheduled debt, the debtor owed about $7.4 million, just below the $7.5 million cap for Subchapter V. Both before and after the chapter 11 filing, the debtor said he was engaged in “winding down” the repair business, although neither he nor the business was generating any income.