This past July, Professor Edith Hotchkiss found herself in a situation rare in today鈥檚 Washington: She was testifying in favor of a bankruptcy policy change with bipartisan support鈥攂oth congressional Democrats and Republicans claimed they favored it.
Hotchkiss, the Accenture Professor in the Carroll School of Management鈥檚 Seidner Department of Finance, was invited by the US House Judiciary Subcommittee on the Administrative State, Regulatory Reform, and Antitrust to discuss her research on of the federal bankruptcy code. The debt-size limit that qualifies small businesses to reorganize under this law had fallen, reducing eligibility. That means many more small firms鈥攏eighborhood gyms, local restaurant chains or small manufacturers鈥攃ould end up closing.
Edith Hotchkiss
鈥淪ubchapter V was created because Chapter 11 wasn鈥檛 working for small firms,鈥� Hotchkiss says. 鈥淥nly about one-third of distressed small businesses were attempting to reorganize in Chapter 11, and of those, only about a third survived the process. Subchapter V was intended to fix that, under the assumption that many of these would be viable firms if they just had less debt.鈥澛�
Subchapter V, passed in 2019, simplified reorganization, initially setting a threshold for qualifying at no more than $2.75 million of debt. Congress later raised the limit to $7.5 million, but last year, on account of a sunset provision, it returned to close to its original level. Hotchkiss says that, if the lower limit had been in effect over the last several years, 25-percent fewer firms entering Chapter 11 would have been able to use Subchapter V. Put differently, approximately 1,700 of the 7,300 small businesses that filed under Subchapter V wouldn鈥檛 have been eligible with the lower limit.
, so far to no avail. 鈥淚 got the impression both sides want to try to tack this on to a larger bill,鈥� Hotchkiss says. 鈥淏ut if they don鈥檛 get their way on other issues, they won鈥檛 agree to changes for Subchapter V either.鈥�
That鈥檚 unfortunate because, according to , the new law is working as intended: It鈥檚 helping many struggling but viable businesses survive but doesn鈥檛 harm payouts to lenders.聽
As , the law 鈥渕ore than doubles the probability of reorganization,鈥� but 鈥渆xpected recovery rates to unsecured creditors are 11.9 percent higher鈥� than in similar non-Subchapter V cases. In other words, businesses and jobs endure, and lenders end up with more than they would in a liquidation. (If bankrupt businesses don鈥檛 reorganize, they typically close.)
Hotchkiss and other testifiers at the subcommittee meeting on July 15, 2025.
Hotchkiss and her coauthors examined 6,431 bankruptcy cases filed from 2017 to 2024. They found that firms filing under Subchapter V were more likely to have their reorganization plans approved than comparable firms that didn鈥檛 file under Subchapter V. And those that did receive approval reached that point faster than the comparable firms. That reduced the overall costs of bankruptcy for the firms and their lenders.
One concern has been that Subchapter V鈥檚 streamlined process might enable even some nonviable firms to reorganize, leading them to limp along and eventually fail. Hotchkiss and her collaborators did find that many more firms could reorganize using Subchapter V. But they also showed these firms had higher chances of long-run survival.
Hotchkiss says Subchapter V was needed because lenders鈥�"especially secured debtholders like banks鈥濃�攄idn鈥檛 have much incentive to participate in reorganizations before. They could cover at least some of the value of their bad loans by foreclosing on collateral, and they likely preferred that to investing staff and legal time in helping with lengthy reorganizations. Yet some of their borrowers, with forbearance, could have kept operating and would鈥檝e ended up producing greater value than the proceeds from a liquidation. 鈥淭hat value preserved can be shared by everybody,鈥� Hotchkiss says.
Think about it this way: If your gym liquidates, the owner loses her livelihood, trainers lose their jobs, and a bank may end up seizing a storefront in the midst of a recession鈥攏ot the best time to find a new tenant. If the gym reorganizes, the owner keeps the business, trainers retain their jobs, the bank still sees loan payments鈥攁nd you keep taking yoga and CrossFit classes.
鈥淥ne thing that鈥檚 unique to small firms is that, without the owner, the business often can鈥檛 continue to exist,鈥� Hotchkiss says, explaining the importance of this particular bankruptcy reform. 鈥淚n the bankruptcy of a big company, you can bring in a new manager, and the firm continues. That doesn鈥檛 work for small businesses.鈥�
