Entrepreneurship is a challenging journey, often marked by initial success that can be followed by unforeseen difficulties.
While 20% of small businesses survive their first year, only half see their fifth anniversary, and a mere third celebrate a decade in operation. This suggests that fewer than 4% of businesses starting today will be around in 2033.
This year has seen a significant increase in small businesses bankruptcy filings under “Subchapter V” of Chapter 11 of the Bankruptcy Code, highlighting the mounting financial stress on this vital economic sector.
This spike is attributed to various factors: rising interest rates, stricter lending standards, and escalating operating and labor costs. The end of COVID-19 pandemic support programs has further strained many businesses that previously relied on them.
Given their limited financial buffers and narrow profit margins relative to larger corporations, small businesses are particularly vulnerable to economic downturns.
Their lack of significant cash reserves leaves them exposed to market fluctuations. A considerable number of the recent bankruptcy filings are under Subchapter V, a provision designed to simplify the process for struggling small businesses.
Small Business Bankruptcy: Subchapter V
According to the Wall Street Journal, so far this year, over 1,500 small enterprises reorganized and sought financial relief, a figure almost matching the total from the previous year. Yet, these numbers only scratch the surface.
Loan delinquencies are increasing, and a staggering 90% of small-business closures happen outside bankruptcy.
Despite the relatively straightforward and less expensive nature of Small Business Debtor Reorganization, many can’t afford even this option.
For numerous businesses, their debt isn’t substantial enough to justify an official bankruptcy filing, regardless of their financial difficulties.
The Coronavirus Aid, Relief, and Economic Security Act of 2020 boosted the aggregate debt limit for “Subchapter V” Chapter 11 filings from $2,725,625 to $7,500,000, with the Biden Administration extending this limit until June 2024.
During the pandemic’s peak, government aid, particularly COVID-19 disaster loans, was instrumental in sustaining many small businesses.
While the loan terms were attractive— 30 years at 3.75% interest — repayment has become a significant burden for many entrepreneurs, especially those battling to find their feet post-pandemic.
As of now, nearly 25% of small business borrowers are over 30 days past due on their COVID-19 relief loan payments.
Subchapter V’s role is pivotal. Introduced by Congress in February 2020, it offered an alternative to the often prohibitive costs and constraints of standard Chapter 11 filings.
With greater awareness and the temporarily raised debt limit, more businesses are opting for this route.
The financial strain isn’t exclusive to small businesses. There has been a sharp rise in overall commercial Chapter 11 bankruptcies, with 2,973 cases in the first half of 2023, a significant jump from 1,766 during the same period in 2022.
Final Thought
As small businesses confront an array of financial hurdles, from soaring interest rates to rising borrowing costs, our entrepreneurial landscape is evolving.
Policymakers, lenders, and industry leaders must stay alert to these shifts, collaborating to devise strategies and offer much-needed support to the very backbone of our economy.
