Chapter 11 is a way to restructure your debt when you don’t qualify for Chapter 13. It’s primarily used by business owners but can sometimes help individuals as well. When you enter Chapter 11, you create a reorganization plan to help keep your business going while still paying off your creditors.
There’s no limit on how much debt qualifies or how much income you can make. On the downside, research shows that success rates only hover around 10%. It’s fair to say that you need to proceed with caution before jumping into Chapter 11. Here’s what to know so you can weigh your options.
How It Works
Chapter 11 is primarily used for businesses that are incorporated as a corporation, sole proprietorship, or partnership. Individuals can also file for Chapter 11 bankruptcy. How your assets are handled varies depending on what you file as in your petition. Options include:
A corporation in bankruptcy is considered separate from its owners (and stockholders) so there are no personal assets at risk except for any corporate stock you hold.
A sole proprietor in bankruptcy includes both business and personal assets because there is no separation between the individual and the business.
While the individuals forming a partnership exist separately from the business, personal assets may be used in some cases for debt repayment.
Throughout the Chapter 11 process, the business continues to operate while you repay your creditors. But if your management is found to be ineffective, a trustee can be appointed, although this is a rare situation.
Filing for Chapter 11 Bankruptcy
The process starts by filing a voluntary petition with the court. In some instances, your creditors can join together to file a petition and force your business into Chapter 11. This is known as an involuntary petition and must be initiated by at least three of your creditors working together.
You’ll need to include certain details about yourself and your business, including:
- Social security number or tax identification number
- Location of your principal assets (for businesses)
- Your plan or intention to file a plan
- Request for relief under Chapter 11 bankruptcy
For businesses filing a voluntary petition, you’ll also need to supply the following documents:
- Schedule of assets and liabilities
- Schedule of current income and expenditures
- Schedule of executory contracts and unexpired leases
- Statement of financial affairs
Individuals filing a petition for Chapter 11 must also include the following information, plus the same for their spouse:
- Certificate of credit counseling
- Copy of any debt repayment plan developed through credit counseling
- Evidence of payment from employers received 60 days before filing (if applicable)
- Statement of monthly net income, plus the anticipated increase in income or expenses
- Record of any federal or state qualified education or tuition accounts
All businesses and individuals who file for Chapter 11 must submit a reorganization plan to show how you plan to repay your debts. The final draft is negotiated with a committee of up to 20 of your largest creditors, who also represent any other creditors you owe.
You have four months after the bankruptcy petition is filed to create this plan. If just cause is found, you can get it extended by the judge for up to 18 months total. During this time, your creditors can’t take any action against you. They can, however, propose a reorganization plan of their own for consideration.
Within the reorganization plan, your creditors are grouped into different classes for repayment: priority, secured, and unsecured. Creditors who are slated to receive a settled, lesser amount than what you owe must vote to approve your plan. After that, it must be confirmed by the court.
When creating your plan for a business, you should include how to reduce operating expenses, whether that’s through cutting staff, liquidating assets, or downsizing operations. The repayment period usually lasts anywhere between six months and five years.
If a judge doesn’t think your small business will be able to make any profit after the bankruptcy process, you may be required to switch to Chapter 7 bankruptcy.
How to Qualify as an Individual
While Chapter 11 bankruptcy is often reserved for businesses, it is possible for an individual to qualify if you want to avoid asset liquidation in Chapter 7 and have too much debt to qualify for Chapter 13.
To help satisfy your debts, you may be able to qualify for longer repayment terms in addition to lower interest rates so you can more easily afford your monthly payments. It’s also important to note that any earnings you make or property you acquire before your bankruptcy case is closed can be used to fund your creditors.
Also, expect to use all of your disposable income over the course of five years as an individual. To get around this timeframe and close in a shorter period, you have to pay your claims in full (plus interest).
Debts That Can’t Be Discharged
Not all types of debt can be included in your reorganization plan. Anything on this list remains debt to be paid in full regardless of how your Chapter 11 bankruptcy turns out.
- Child support
- Certain taxes
- Federal student loan debt
- Debt owed from personal injury judgment
The cost to file Chapter 11 with the courts is $1,717, which includes both a case filing fee and an administrative fee. In most instances, these fees must be paid to the court clerk when you file your petition, but individuals may be able to set up an installment payment plan of four payments within 120 days. Spouses filing jointly only have to pay one set of court fees.
In addition to these court fees, Chapter 11 can end up costing much more in legal fees. At a minimum, you should plan to spend at least $10,000 altogether, but other times, particularly for large companies, expenses can creep into the seven-figure range.
Credit Score Impact
How Chapter 11 affects your personal credit score depends on your entity type when you file. In some cases, the bankruptcy and affected accounts are listed on your credit report while in other cases, your personal credit score is completely sheltered.
Expect to have the bankruptcy and all associated accounts appear on your credit report. Chapter 11 bankruptcy stays on your credit report for 10 years, although it won’t hurt your score as significantly as time wears on.
Since you’re considered one and the same as your business, any Chapter 11 bankruptcy also shows up on your personal credit report for 10 years.
Your bankruptcy shouldn’t show up on your personal credit report for either a general partnership or a limited partnership.
Depends on whether or not you included a personal guarantee with any of your business debtors. A personal guarantee holds you responsible as an individual. These are particularly common with credit cards. A good rule of thumb to follow is that if you used your social security number to apply for the credit, it likely comes with a personal guarantee. To confirm, you can always refer to your credit agreement for details.
Any of these individual accounts with a personal guarantee that are settled through bankruptcy can appear on your personal credit report and will impact your score. However, the bankruptcy itself should appear on your report.
Chapter 11 vs. Chapter 7 Bankruptcy
Filing for Chapter 7 bankruptcy is reserved for individuals rather than businesses. It’s a relatively fast process that liquidates your assets and uses the money to settle your debts with your creditors. You’ll be able to keep some of your property, but much of it is sold off.
In order to qualify for Chapter 7, you must meet a means test that takes into consideration your income, family size, and expenses. If you don’t make enough money to have disposable income that can be applied to your debt, then you’ll qualify for Chapter 7. The entire process from start to finish typically takes no more than a few months.
Chapter 11 vs. Chapter 13 Bankruptcy
If you don’t meet the means test requirements for Chapter 7 and don’t want to automatically jump to Chapter 11, you may qualify for Chapter 13 bankruptcy. Similar to Chapter 11 for individuals, you use your disposable income to pay off your prioritized creditors over a period of three to five years.
You can also use your repayment period to catch up on your mortgage and car payments rather than having either (or both) repossessed to repay your creditors.
The Bottom Line
Chapter 11 bankruptcy can be a lengthy process with many components out of your control. Like any type of bankruptcy, it should be accessed as a last resort when all of your other options have run out. It’s always best to consult a proficient bankruptcy lawyer to guide you through the process and ensure you’re fully represented when negotiating a reorganization plan with your creditors. You can also seek help from a credit counseling agency to explore options before taking any action.