By: Donald L Swanson
Question
Once a Subchapter V debtor is removed from possession under § 1185(a), what happens next?
The answer to this question seems to have evolved over the few years of Subchapter V’s existence:
- from a low-power position for debtor, early-on;
- to a high-power position for debtor, in a re-thought view; and
- then back to the low-power position for debtor, when problems of the re-thought view become evident.
I’ll try to explain.
Early Answer
Early-on, in the Subchapter V experience, the default answer to the question appears to be this.
First, the Subchapter V trustee’s default approach is to:
- liquidate debtor’s assets under § 363;
- continue debtor’s operations for a time, if needed to maximize the liquidation value; and
- pay allowed secured claims from liquidation proceeds.
Then, the Subchapter V trustee:
- distributes the remaining liquidation proceeds under § 726’s distribution scheme; and
- finds a way to conclude the Subchapter V case.
–Procedural Options
Procedural options for distributing unencumbered funds and concluding the Subchapter V case include:
- conversion to Chapter 7, at any party’s request;
- a structured dismissal, at any party’s request; or
- confirmation of a plan, at debtor’s request (§ 1189(a) says, “Only a debtor may file” a Subchapter V plan).
The presumption is that, after liquidation and payment of secured claims, the Subchapter V trustee will seek either a conversion to Chapter 7 or a structured dismissal.
Should a removed debtor want a different approach, the debtor needs to promptly file a plan with terms that have a genuine chance at confirmation, but
- no one is going to wait around for the debtor to do such a thing.
–Theoretical Basis
This early answer puts debtor in a low-power position.
The theoretical basis for doing so includes:
- debtor’s removal happens “for cause, including fraud, dishonesty, incompetence, or gross mismanagement”;
- so, a removed debtor has, by bad conduct, forfeited the right to retain a high-power position in the case; and
- a Subchapter V trustee’s powers include liquidating debtor’s assets under § 363.
Rethinking the Early Answer
Then for a time, it seems, the tide of opinion starts turning away from the early answer and in the removed debtor’s favor.
Under the new thinking, the removed-from-possession debtor retains a high-power position.
–Theoretical Basis
The high-power for debtor idea comes from:
- ignoring the reality of a removal for “cause”;
- focusing, instead, on these two Subchapter V provisions:
- only the debtor can file a Subchapter V plan (§ 1189(a)); and
- a removed debtor might be reinstated to possession at some future time (§ 1185(b)); and
- observing that, upon removal of a Subchapter V debtor from possession:
- a trustee’s powers may include liquidating assets under § 363, but
- liquidating assets is not one of the trustee’s “duties.”
–Result
Such rethinking, and its resulting high-power position for the removed debtor, result in an extremely-limited role for the Subchapter V trustee. It’s like the trustee’s hands are tied.
Here’s what happens, practically, under the rethinking:
- a Subchapter V trustee cannot do much of anything without the removed debtor’s assistance, other than seeking conversion of debtor’s Subchapter V case to Chapter 7; and
- before liquidating or doing much of anything else, after debtor’s removal from possession:
- the Subchapter V trustee needs a confirmed plan; and
- only the debtor can file such a plan; and
- the Subchapter V trustee must stand, hat-in-hand, waiting for the removed debtor’s plan-filing initiative.
Returning to the Early Answer
The rethinking described above never really gets much traction.
It may have seemed like a good idea while in vogue, but its deficiencies and unworkable limitations become obvious.
So . . . it seems that we are back to the early answer; i.e., the Subchapter V trustee, upon removal of debtor from possession:
- moves promptly toward liquidating debtor’s assets, with the option of continuing debtor’s operations for a time to maximize value; and
- dealing later with the question of how to conclude the case—whether by conversion to Chapter 7, by a structured dismissal, or by a plan of reorganization filed by the debtor.
Conclusion
A Subchapter V debtor has the exclusive right to file a plan of reorganization.
That exclusive right, however, has limitations:
- it is a debtor’s tool to achieve debtor’s goals;
- it can even be used after debtor’s removal from possession; but
- it is not a super-power—it cannot impede the Subchapter trustee’s exercise of powers or duties after debtor’s removal from possession.
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