Farmers, Vets, Small Businesses, Oh My! Bankruptcy Reforms Open Up Access, 0120 SCBJ, SC Lawyer, January 2020, #34

• Author: By Katherine Rea and Adam Floyd
• Position: Vol. 31 Issue 4 Pg. 34

Farmers, Vets, Small Businesses, Oh My! Bankruptcy Reforms Open Up Access

Vol. 31 Issue 4 Pg. 34

South Carolina BAR Journal

January, 2020

By Katherine Rea and Adam Floyd

One of the first major pieces of bankruptcy reform in well over 10 years will provide much-needed bankruptcy relief to debtors and businesses that many suspect have been deprived of access to bankruptcy protection. The federal legislation comes in three pieces: the Family Farmers Relief Act (“FFRA”), the Honoring Americans in Extreme Need (“HAVEN”) Act, and the Small Business Reorganization Act (“SBRA”). The SBRA will take effect February 19, 2020, and the other pieces of the code change were implemented when President Donald Trump signed the law in August 2019.

Types of bankruptcy relief

Before discussing the amendments, it is useful to have a little bit of background on the types of bankruptcy relief. Generally, there are two types of bankruptcies: liquidation and reorganization. In both types, an “estate” is created on the day the petition is filed.¹ For reorganization bankruptcies, the estate is usually augmented by assets acquired after the case is filed² ; for liquidation bankruptcies, the estate is mostly set as of the date of the petition.³ The status of a debt – that is, secured, unsecured, perfected, priority – is also generally set as of the date the case is filed.^[4] The debtor then can protect some of her assets through state and/or federal law exemptions.⁵

If the debtor is in a liquidation Chapter 7 bankruptcy, an appointed trustee liquidates unprotected, lien-free assets and distributes to creditors in an order of priority.⁶ Secured debts survive the bankruptcy and are generally unaffected; unsecured debts receive distributions if there are any assets to distribute (there frequently are not), and then these debts are discharged.⁷ There are very few limitations on what types of legal entities can file for Chapter 7 liquidation.⁸ For individuals, however, there are income caps.⁹ Although a Chapter 7 of a legal entity may last for years, for most consumers, a Chapter 7 bankruptcy only lasts a few months before the debtor receives the much-coveted discharge.

If an individual cannot file for Chapter 7 bankruptcy, that individual generally must file a Chapter 13 bankruptcy.¹⁰ In exchange for the discharge, Chapter 13 bankruptcy requires a debtor to propose a bankruptcy plan; a court to approve the plan; and the debtor to then successfully complete payments under the plan.¹¹ The plan must treat all secured debts and pay some percentage, determined by debtor’s assets and income, to unsecured creditors.^[12] Most secured debts, with the notable exception of home mortgages, can be modified, and delinquent mortgages can be caught back up.¹³ Debtors generally do not need creditor consent to modify debts, provided the modification is consistent with Bankruptcy Code provisions. While in the plan, the debtor makes payments to a Chapter 13 trustee, who monitors the debtor’s progress, collects funds, and makes distributions to creditors.¹⁴ The primary limitation on individuals filing Chapter 13 is the size of the debts: they must be under $1.6 million.¹⁵

Table 1: Bankruptcy Filings in Perspective in South Carolina

Source: U.S. Bankruptcy Courts – Bankruptcy Cases Filed, Terminated, and Pending, December 31, 2014 – 18, available at www.uscourts.gov/statistics-reports/caseload-statistics-data-tables, last accessed November 19, 2019.

Year	Total Nationwide Filings	Total South Carolina Filings	Chapter 7	Chapter 11	Chapter 12	Chapter 13
2018	773,418	6,598	2,597	27	3	3,971
2017	789,020	6,554	2,587	29	5	3,933
2016	794,960	6,617	2,658	32	3	3,923
2015	844,495	6,953	2,777	25	4	4,146
2014	936,795	7,386	3,029	35	4	4,317

The other two types of reorganization bankruptcy relevant here are Chapters 11 and 12. Chapter 12 is limited to “a family farmer or family fisherman” that can be a legal entity or a person, and amount of debt the debtor has.¹⁶ Like Chapter 13, a Chapter 12 bankruptcy plan does not need creditor consent provided it follows the provisions of the Bankruptcy Code. Also similar to Chapter 13, the debtor makes payments to an appointed trustee who monitors the debtor’s progress and makes distributions to creditors.¹⁷ Unlike Chapter 13, Chapter 12 debtors are not required to stay in the plan for any particular length of time or pay any particular amount to unsecured creditors. Chapter 11 is the most complicated of the reorganization chapters, although in theory it is similar to Chapters 12 and 13 in that the debtor proposes a plan,¹⁸ pays creditors (there generally is not a trustee)¹⁹ , and receives a discharge.²⁰ However, Chapter 11 has quite a few hurdles that, unlike the fairly straightforward process of a Chapter 7, 12, or 13, make the process a lot longer, significantly more expensive, and more difficult. For example, a debtor must pay quarterly fees to the United States Trustee (the “UST”), a governmental oversight organization; there must be enough cash on hand when the plan is confirmed to pay certain types of debts;²¹ there must be some creditor consent to the plan;²² and generally a debtor must give up any property or equity ownership in any assets.^[23] Bankruptcy reform over the past 20 years has focused on what types of debtors should be able to utilize what types of chapters. Chapter 7 is preferred by many for its quick discharge, but it provides limited relief for debtors who need to restructure secured debts. Additionally, some consumers are barred from using it due to the income restrictions. Chapter 13 is preferred by those consumer debtors seeking to catch up delinquent home mortgages, however those mortgages cannot be restructured, and the Chapter 13 debtor must keep making proposed payments for three to five years to get a discharge. For some consumer debtors, particularly those who are or were small business owners, they have too much debt to qualify for Chapter 13 relief and cannot afford to file a Chapter 11 bankruptcy. Chapter 12 debtors enjoy many of the benefits of Chapter 13, but who may file under Chapter 12 is limited by the type of business and, again, by debt limits. Chapter 11 is a catch-all for those who do not qualify for the other chapters, but it is expensive (prohibitively so for many small and mid-level businesses), complicated, and has a lot more rules than all the other chapters. The new amendments to the Bankruptcy Code are all attempts to rebalance a debtor’s options to address financial distress. Changes for family farmers and fisherman The most straightforward change to the Bankruptcy Code is through the FFRA. The amendment raises the debt limits in Chapter 12 for family farmers from $4,411,400²⁴ to $10 million. The significance of this increase cannot be overstated. Farmers who had debts over the debt limits had limited options in bankruptcy: liquidation under Chapter 7, which results in liquidating the farm, or Chapter 11 reorganization, which requires the farmer to give up its ownership interest. Either way the farm is lost: an emotional and heart-breaking decision for most farmers that Chapter 12 was designed to help them avoid. The new debt limits, which became effective as of the signing of the bill, are designed to eliminate this Catch-22 and will give more family famers access to the protections of Chapter 12. It should be noted that this increase in the debt limits under the FFRA does not apply to family fishermen, who are also allowed to be debtors under Chapter 12. Changes for veterans The second, slightly less straightforward change is the HAVEN Act. The HAVEN Act changes how “income” is defined for consumer debtors. As stated above, the amount of income a person has will affect whether the person can file for Chapter 7 or must file for Chapter 13, and, once in Chapter 13, income will also affect how long the plan must be and what must be paid to unsecured creditors. Generally, current monthly income includes all income from all sources received by the debtor. Prior to the signing of the HAVEN Act, the only income excluded was: (1) Benefits received pursuant to the Social Security Act

(2) Payments to victims of war crimes or crimes against humanity

(3) Payments to victims of terrorism or domestic terrorism.²⁵ Courts have consistently construed these provisions strictly.²⁶ The HAVEN Act²⁷ added a new category of income excluded from the current monthly income calculation: any monthly compensation, pension, pay, annuity, or allowance paid under title 10, 37, or 38 in connection with a disability, combat-related injury or disability, or death of a member of the uniformed services … The types of benefits received cover most military and veteran disability payments.²⁸ Although the benefit may be exempt, importantly the amount of the benefit that is excluded from the calculation is limited … to the extent that such retired pay exceeds the amount of retired pay to which the debtor would otherwise be entitled if retired under any provision of title 10 other than chapter 61 of that title. Understanding this exclusion requires, first, an understanding that Veterans Affairs (VA) disability compensation and military retirement are two different types of military compensation, and second, an understanding of how military retirement is calculated.²⁹ Generally, a person receives military retirement upon retiring after 20 years of active service, and the amount of the retirement is based on how long the person was in the service.³⁰ A...