Subchapter V Eligibility: A “Liberal Construction” Trend (Lyons v. Family Friendly; In re Mongeau)

“Commercial or business activity”? (photo by Grant Swanson)

By: Donald L Swanson

Bankruptcy courts continue struggling with the meaning of the phrase “commercial or business activities” for Subchapter V eligibility.  That’s especially true when a debtor’s business liquidates before the bankruptcy is filed.

However, the distinct trend of such struggle is toward a liberal construction of that phrase.  Two recent bankruptcy court opinions, issued four days apart, demonstrate the trend.

Lyons v. Family Friendly 

One of the opinions is Lyons v Family Friendly Contracting LLC (In re Family Friendly Contracting LLC), Case No. 21-14213, by the Maryland Bankruptcy Court (issued October 26, 2021, Doc. 148) 

It describes the trend like this:

  • “many courts have considered the meaning of the phrase ’commercial or business activities,’” and “Virtually all have applied a liberal construction of the phrase in keeping with [Subchapter V’s] purpose and the language of § 1182(1)(A)”;
  • The primary purpose of Subchapter V is to “promote successful reorganizations using the tools that are now available under current law”; and
  • The meaning of the phrase “commercial or business activities” is “exceptionally broad.”

Such latest opinion also expands upon the “liberal construction” trend with the following observations:

  • “The plain and ordinary meaning of ‘commercial or business activities’ does not require a profit motivation”; and
  • A 1996 opinion from the Fourth Circuit Court of Appeals (that seems to hold otherwise) is distinguishable, since it merely identifies one difference between “consumer” debts and “commercial” debts.

In re Mongeau

Issued four days earlier is the opinion, In re Mongeau, Case No. 21-40055, by the Kansas Bankruptcy Court (issued October 22, 2021, Doc. 107). 

In re Mongeau is, actually, a Chapter 12 case that deals with a debtor’s eligibility for relief under that chapter. 

However, the opinion cites various Subchapter V eligibility opinions as “persuasive” in the Chapter 12 context, for the proposition that “winding down a business that stopped operating prepetition is sufficient to be ‘engaged’ in business activities.”  

The cited opinions, finding subchapter V eligibility, are based on the following sets of facts (see In re Mongeau, footnote 29):   

  • Maintenance of bank accounts, working with insurance adjusters and defense counsel to resolve claims, and engaging in efforts to sell assets;
  • Actively pursuing litigation against a third party and engaging in other wind down work;
  • Exploring counterclaims in a lawsuit and “taking reasonable steps to pay its creditors and realize value for its assets”;
  • Performing wind down work of about twelve hours a month post-petition, such as storing business records and dealing with tax accountants and tax issues;
  • Engagement in commercial or business activities can be from “currently engaged in or formerly engaged in”; and
  • “Addressing residual business debt” is engaging in business activities.

The following sets of facts are from cited opinions showing what does not qualify as “engaged in commercial or business activities” for Subchapter V eligibility (id.):

  • Debtors are not occupied or busy in their defunct companies, in any respect, and the cessation of such activities is permanent; and
  • Debtors had sold their business with no intent to return to it and are not active or involved in any business activities—though their LLC is still in good standing under state law and still owns accounts receivable and two cars.

Conclusion

The two opinions discussed above, from October 22 and October 26 of 2021, are among the latest opinions giving a liberal meaning to the Subchapter V eligibility phrase, “engaged in commercial or business activities.”

What the two opinions show is this: pre-petition liquidation of a debtor’s business does not prevent Subchapter V eligibility, when the debtor is still engaged in wind down efforts.

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