How Chapter 11 Can Help

Business Bankruptcy

That dream of owning your own business has turned sour. The popular neighborhood coffee shop you started was flourishing until a national coffee chain opened a block away. You've tried everything, even maxed out your business credit cards, but the cash flow can't keep up with your cash obligations. It's time to consider a Chapter 11 bankruptcy - a type of bankruptcy usually reserved for businesses.

This type of bankruptcy could save your business and lower your debts, though there are some disadvantages, too. This guide provides the information you'll need to make an informed decision.

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Is a Chapter 11 Bankruptcy Right for Me?

You probably remember some giant corporations that were forced to declare bankruptcy, including United Airlines, the Texas Rangers, Marvel, Trump Entertainment Resorts and the Chicago Cubs. And each year, more than 22,000 American companies declare bankruptcy— and about one in four file for Chapter 11.

"Many small business owners can't afford to stay open, and it's very hard," says Cathy Moran, a bankruptcy attorney in Mountain View, Calif. But with a solid reorganization plan approved by your creditors, Chapter 11 may be the light at the end of the tunnel. Moran says fear, stubbornness and pride are the three emotions that most commonly interfere with a decision to file for bankruptcy. "Staying in debt means living with stress or dying of stress," she says. "Bankruptcy is not a moral failing; it's a legal solution to an economic problem."

Here are the pros and cons that you should weigh when making the decision whether to file a court petition for these legal protections:


  • Your business can continue operating while paying off debts.
  • You can pay back at least part of your unsecured debts.
  • You have the freedom to restructure secured debts to make lower payments and spread the debts over a longer period of time.
  • Bankruptcy's automatic stay gives relief from harassing creditors contacting you at home or at your business.
  • You have the benefit of "automatic stay," which stops foreclosures and debt collection until the case is resolved.

Of all of the benefits of Chapter 11, automatic stay is especially important, Moran says: "It has legal effect even if the creditor hasn't gotten official notice or a copy of the filing. It's no defense to say, 'I haven't gotten notice from the court.' This gives the debtor breathing space."

"The bankruptcy case brings all of the debtor's assets and all of the creditors into the same court, where the rights of all concerned can be balanced," Moran continues. "The automatic stay also protects creditors from being aced out of payment by other, more aggressive creditors."


  • There's a stigma to bankruptcy, unfair or not. Business owners may be reluctant to file Chapter 11 because they believe that declaring bankruptcy will affect their reputation.
  • You'll suffer a loss of privacy. Debtors trying to reorganize under Chapter 11 must file detailed financial information with the bankruptcy court. These documents become public record with a court filing and are available to anyone.
  • Expect a lot of paperwork. You'll have to maintain and report detailed financial records on a regular basis.
  • You'll have to show your business is profitable. Profitability requirements. Debtors reorganizing under Chapter 11 must show profitable operation when their debts and obligations are reorganized. Although Chapter 11 reorganization can help the business reach profitability by reducing expenses, you'll need reason to believe that reorganization can make the business profitable again.
  • You'll lose some control over business operations. You'll retain control over most operations known as "the ordinary course of business." But you'll need court approval to do other things like refinancing, selling or buying business property, leasing or breaking a lease, expanding operations, or signing and changing vendor agreements, licensing contracts and union contracts.
  • There may be restrictions on compensation. The court may set pay limits for corporation insiders like company officers, directors and major shareholders.
  • Your original shareholders could lose their position completely. When General Motors completed its reorganization under Chapter 11 in 2009, the value of its stock dropped to zero, and most of the old shareholders lost their investments. With smaller corporations, a well-planned Chapter 11 reorganization may preserve the control and investments of the old shareholders.
  • During the confirmation process, creditors, shareholders and others may weigh in on court decisions, and the court may force you to pay for legal representation for unsecured creditors.

Chapter 11 Bankruptcy: How It Works

A Chapter 11 bankruptcy doesn't mean your business is closing its doors. Instead, a Chapter 11 lets you restructure your finances so that creditors and owners can get the maximum returns. In other words, you stay in control of your assets, work with the courts to come up with a plan to repay your debts and (if all goes well) make a strong comeback.

"For legal advice specific to your situation, see a bankruptcy lawyer," Moran says. "It's a complicated process and I wouldn't try to go it alone." Even the simplest Chapter 11 reorganization, she says, is roughly 10 times the cost of a Chapter 7 personal bankruptcy.

Attorneys can also advise you how to run your business without getting into debt. "Chapter 11 is often a knee-jerk reaction when things fall apart," she says. "The usual problem is there is no real plan, as in, what would you differently than you did before if you could reorganize?"

Chapter 11: A Step by Step Guide

Here's a brief guide to how a Chapter 11 bankruptcy works:


See an attorney

See an attorney, who agrees to file papers for a Chapter 11 bankruptcy on behalf of your corporation, partnership or limited liability corporation (voluntary petition).

In rare cases, your creditors may band together and force a Chapter 11 bankruptcy. This is called an involuntary petition.


Establish whether you need to see a credit counselor

If you are filing as an individual (or husband and wife business partnership), there are extra requirements. A credit counselor will help you to put together a plan to repay your creditors and keep your business afloat, and file a certificate of credit counseling and a copy of the debt repayment plan you developed together. Also, the local court will require:

  • Bring evidence of payment from any employers received within 60 days of filing; a statement of monthly net income and any anticipated increase in income or expenses after filing

Be ready to pay

Be ready to pay a $1,717 case filing fee for a Chapter 11 petition, as well as a $550 miscellaneous administrative fee, which the court may agree can be paid in installments.

Propose a plan to the bankruptcy court that explains how you are going to reorganize your finances. (See "What Does the Court Want to See in a Chapter 11 Reorg Proposal?" below).


Find out whether your plan is accepted by the court

If the court believes you can make the plan work, that it's fair to your creditors and that you have proposed it in good faith, the plan may be confirmed — if enough creditors vote to accept the plan.

Unless the court orders otherwise, you must also file:

  • Schedules of assets and liabilities
  • A schedule of current income and expenditures
  • Business contracts and unexpired leases
  • A statement of financial affairs

Continue to operate your business to the best of your ability

In most cases, your business continues to operate with you at the helm as debtor (officially, "debtor in possession," or DIP). As Moran explains, "This means you keep your possessions and continue to control business assets while undergoing a Chapter 11 reorganization." A bankruptcy court at the judge's discretion or by creditors' petition can appoint a trustee if there's evidence of dishonesty, fraud, incompetence or "gross mismanagement" of the business during the reorganization. In practice, trustees rarely get involved in the process, Moran says.


Find out whether your creditors accept your plan

Creditors will vote on the plan by ballot. Once the votes are tallied, the court holds a confirmation hearing to decide whether to approve the reorganization and repayment plan.


Continue to keep on top of your paperwork and milestones

Chapter 11 ends only when a judge discharges the filing, Moran says, or the Chapter 11 is converted to a Chapter 7 bankruptcy and the company is liquidated.

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In addition, bring records of any interest you have in federal or state qualified education or tuition accounts. (Official forms can be downloaded here.)

How to Prepare for a Chapter 11 Bankruptcy

You'll need to gather and organize all of your business paperwork. This includes documents proving what you owe, how much you owe, and to whom you owe it, as well as any payments you've made. Add to that any collection letters or any other documents related to your debts. Essentially, if something is relevant to your Chapter 11 bankruptcy, it's important that you prove it with written evidence, Moran says.

"Bear in mind that you must provide this information within 15 days of the date of filing, so be ready before you send in the official Chapter 11 bankruptcy filing," she says. "Your attorney will know these time limits and all the other details, which is why I strongly urge people to talk to a bankruptcy lawyer about their own situation."

What a Bankruptcy Court Expects in a Chapter 11 Proposal

The court will need a reorganization plan and a disclosure statement. Here are examples of each: a copy of the form for a reorganization plan under Chapter 11 and a Chapter 11 disclosure statement. For reference, here is a reorganization plan proposed by Winn-Dixie corporation; for a small business, the plan will be considerably less complex.

To approve, or "confirm" a Chapter 11 bankruptcy, a court will want to see the following in your plan:

  • Persuasive evidence that the plan is feasible and likely to succeed
  • A description of your business and its history
  • A list of your creditors and claims, unexpired leases, contracts and how you plan to classify and treat each claim
  • Events leading up to the bankruptcy
  • Risk factors of the reorganization plan
  • How the plan will be funded
  • Tax implications of the plan
  • Who will be directing the reorganization (officers or voting trustees)
  • That you're proposing the plan in good faith, with your signature on a statement to that effect. This means you believe the plan to be accurate based on the facts of the case when you file the petition.
  • That the plan is in the best interest of creditors. The court will determine if the plan goes as far as possible in repaying what creditors are owed.

A Chapter 11 plan is confirmed only upon the affirmative votes of the creditors, who are divided by the plan into different classes based on the amount of their individual claims.

Does a Chapter 11 Bankruptcy Work?

Business owners who file for Chapter 11 sometimes manage to recover with their business intact. In most cases, however, the Chapter 11 bankruptcy is dismissed or converted to a Chapter 7 bankruptcy, which forces the debtor to sell off assets to pay creditors. Moran says conversion to Chapter 7 can occur for a number of reasons, though typically it's because the owner is unwilling or simply unable to follow through on the confirmed reorganization plan. However, with careful planning and help from your attorney, Chapter 11 may work for you.

Expert Advice from a Bankruptcy Attorney

Cathy Moran, Esq., has more than 30 years of experience as a bankruptcy lawyer in the Silicon Valley. She is nationally recognized for her skill and insight about consumer bankruptcy law. A certified bankruptcy specialist since 1996, she was recently appointed to the California State Bar's Bankruptcy Advisory Board. Here are some of her tips for getting through a Chapter 11 bankruptcy.

Can a Chapter 11 filing affect my personal credit rating?

Cathy Moran:

If your business is a sole proprietorship, there's no distinction between personal and business debts. If the business is a corporate entity or you're a shareholder, it should not impact your personal credit record. But the reality is that most small businesses rely on the credit rating of the owner to get credit. So whether it's the debt or the filing of Chapter 11, it's going to have some kind of impact.

Will the lease for my business property be affected?

Cathy Moran:

Only the debtor is protected by the automatic stay in a corporate case. If a shareholder has guaranteed the business lease, the landlord may be free to sue the shareholder and enforce the judgment against whatever assets the shareholder has in the business.

What if I want to borrow or start a new business?

Cathy Moran:

There are no prohibitions against forming a new business, but debtors owe a fiduciary duty to the creditors. They cannot appropriate business opportunities that belong to the Chapter 11.

When choosing who to work with, what are some good questions to ask before retaining a bankruptcy lawyer?

Cathy Moran:

Here are some things you should ask.

  • "Do I have any real alternatives to bankruptcy?"
    Asking this question allows the lawyer to talk about the scope of your financial difficulties. It also allows you to gauge whether the lawyer can only see you as a buyer for what he sells. However, most people who sit down with a bankruptcy lawyer really need bankruptcy. They have ignored the signs that the situation is beyond repair for a long time.

  • "What's the most serious complication for me?"
    Few cases are problem-free. Whether it's protecting assets, passing the means test, or finding the money to fund a Chapter filing, almost every set of facts has bankruptcy challenges. You want to know if the lawyer is forthcoming about the expected rough spots. Can he talk candidly about what might be challenging in your case?

  • "How many cases like mine have you handled?"
    You do want to talk about the lawyer's bankruptcy experience. Generally, the larger portion of a lawyer's work load that is bankruptcy, the better.

  • "Who will work on my case?"
    A bankruptcy legal team usually includes both a lawyer and staff. Much of the work in preparing the all-important schedules is routine. What you want to avoid, however, is a business model where all the work and the analysis is done by those without a law degree. Bankruptcy is not just filling out forms. It is important to grasp what conclusions those forms lead a judge or a trustee to. Also ask how you and the lawyer will communicate when you have questions during the process.

  • "What is not included in your fee?"
    Those drowning in bills often think price is important in picking a lawyer. About the only time I think it's important is that the unreasonably low price indicates trouble. Either you aren't getting much service at that price, or the lawyer can't compete on quality and therefore cuts the fee. Ask if lien avoidance or reaffirmation issues are extra. Ask if there are costs beyond the court's filing fee that you must pay.

What else should you look for in a lawyer?

Cathy Moran:

Communication skills. If communication between you and your lawyer isn't open and valued, there's trouble ahead. You need to be comfortable enough with the relationship to disclose the troubling or the embarrassing. Otherwise, you and your lawyer are playing without a full deck. You need to be able to say 'I don't understand' or 'I'm worried.' Otherwise, you may be setting off into the bankruptcy jungle without a current map or an adequate guide. Don't be afraid to leave an initial meeting with a lawyer without making a commitment. If you are uncertain about the fit, think it over.

Chapter 11 might seem like a longshot. Can it work?

Cathy Moran:

Yes, it can work for some businesses. The more narrowly focused the creditor problems are - say, if you've got one creditor or one lawsuit that's creating the crisis and your problem perhaps is illiquidity rather than insolvency — those are good instances where Chapter 11 reorganization could be beneficial.

Are there alternatives to a Chapter 11 bankruptcy?

Cathy Moran:

File for Chapter 13. Don't forget if the business is a proprietorship, Chapter 13 may work and it's underrated as a [business] reorganization tool. It's very flexible, and under Chapter 13, creditors don't get a chance to vote on the reorganization plan. So if a proprietorship is within the debt limits, don't overlook Chapter 13. It doesn't have all the built-in procedural costs that Chapter 11 does.

Chapter 13 also gives you many additional options not available under Chapter 11. For instance, the court can dismiss your case — dismissal is always available in Chapter 13. That's why I like 13 so much. Dismissal could be a chance to start a new case, with new timelines and new values. There's also the option of a Hardship Discharge - under certain circumstances, you can get the benefits of the Chapter 13 discharge without completing the repayment plan.

About the Author


Steve Evans is an award-winning journalist and former managing editor of general media in the Central Virginia Newspaper Group. He has worked as a senior writer for SNL Financial and as a reporter for the Bristol Herald Courier, The Progress and the Richmond-Times Dispatch; he has also served as a magazine and online news editor at the Darden Graduate School of Business at the University of Virginia. His work focuses on business, finance, tech, health and education, and government and public policy.