Historical Prejudices Against Formerly-Successful Entrepreneurs Remain (In re Offer Space)

By: Donald L Swanson

Formerly-successful entrepreneurs have always been treated harshly in these United States.

That may be hard to believe, given our market and credit economy and the importance of small businesses to it.  But it’s true.

And prejudices against formerly-successful entrepreneurs remain in today’s bankruptcy statutes. These prejudices form a link to our debtor prison past.

A Debtor’s Prison History

In the early days of these United States (1700s and early 1800s), debtors were treated worse than criminals—literally.  Here are illustrative examples:

• A criminal served a specified term in prison, while a debtor’s term ran for as long as the creditors insisted—“a felon imprisoned for a term of years” is “liberated by the law after being fed, clothed and taught a trade, at the expense of the state,” while the debtor “is imprisoned for life . . . being left solely at the disposal of his creditors.” [Fn. 1]
• The state housed a criminal in prison at the state’s expense, while a debtor had to rely on family, friends and charity for food, fuel and clothing in prison: the Pennsylvania Governor observed, in 1791, at a Philadelphia prison, the “painful difference” between the “wretchedness” of the debtor’s cell and “the order, the industry, and the cleanliness” of the criminal side—Debtors “languish in the jail, without clothes, without food, and without fire,” while criminals “enjoy every supply that is requisite to maintain life.”  [Fn. 2]
• “As the law now operates,” it is “a greater crime to run into debt . . . than to rob a man on the highway, commit a rape, or burn a house.”  [Fn. 3]
• Debtor’s prison became viewed as a form of capital punishment wielded by private creditors with the acquiescence of the state—“The suicides which have occurred in the debtor’s jail in this state, . . . will be placed to the debt of the creditor.” [Fn. 4]

Today’s Subchapter V Context

Debtor’s prisons, in these United States, have been outlawed since the 1830s.  But legal prejudices against debtors—especially formerly successful entrepreneurs—remain, in statutes created by Congress

One example of such a prejudice is this: it is easier for an entity (i.e., a corporation or a limited liability company) to be eligible for Subchapter V relief than it is for the individual who owns that entity and is personally liable for its debts as guarantor.  

Here’s how.

The opinion is In re Offer Space, LLC, Case No. 20-27480 in the Utah Bankruptcy Court (issued April 22, 2021 (Doc. 50)).  The debtor in that case is a limited liability company, and the Bankruptcy Court finds it eligible for Subchapter V relief under the “engaged in” criterion.  

In doing so, the Bankruptcy Court distinguishes its eligibility result from contrary ineligibility results in two other bankruptcy court rulings—both of which involve individual debtors (the “Two Other Cases”).  Here’s how:

• “The Court highlights a notable distinguishing factor that existed in [the Two Other Cases] but that is not present in the current case—the debtors in both of those cases were individuals, not business entities”;
• While the text of the statute “makes no legal distinction between individuals and business debtors under Subchapter V, the Court believes that the factual distinction between the two is significant in understanding the conclusions reached” in the Two Other Cases;
• In both of the Two Other Cases, “the debtors filed for relief under Subchapter V in their individual capacities. Thus, when the U.S. Trustee raised its objection to their elections, the debtors were forced to try and tether themselves to their former businesses—businesses which, themselves, were not in bankruptcy”;
• Given that the debtors in the Two Other Cases “were a level removed from the businesses themselves, they faced the challenge of bridging the gap between their commercial or business activities and their businesses’ commercial or business activities”;
• “While this may appear to be a distinction without a difference, in light of the courts’ rulings” in the Two Other Cases, “the Court believes that it is an important aspect of the eligibility analysis when considering the totality of the circumstances”; and
• In this case, “because the Debtor is the business, it had no gap to bridge regarding its commercial or business activities.”

Conclusion

We’ve come a long ways—from the debtor’s prison days of olde.

But we’ve still got a ways to go in providing full and effective bankruptcy relief for formerly successful entrepreneurs.

———————

Footnote 1.  Bruce H. Mann, Republic of Debtors, Bankruptcy in the Age of American Independence, at  105 (Harvard University Press 2002) (quotes are from an 1800 issue of a Forlorn Hope newspaper.

Footnote 2.  Id., at 96.

Footnote 3.  Id.,at 105 (quotes are from an 1800 issue of Forlorn Hope magazine.

Footnote 4.  Id., at 105.

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