§ 10.2     Sole Proprietorships Are Eligible
Cite as:    Keith M. Lundin, Lundin On Chapter 13, § 10.2, at ¶ ____, LundinOnChapter13.com (last visited __________).
[1]

Individuals who work for themselves and receive income from their own business, their own labor or their own services are eligible for Chapter 13. Under former Chapter XIII, there was question whether an individual other than a “wage earner” whose income came from employment with an entity other than the debtor was eligible for debtor rehabilitation. It was the perception of Congress that unincorporated small businesspeople could not afford Chapter 11 but needed opportunity to operate their business and generate living expenses during a period of debt restructuring. Chapter 13 of the Bankruptcy Reform Act of 1978 clearly contemplates that debtors who are self-employed can be individuals with regular income.1

[2]

The courts have liberally allowed self-employed individuals to qualify for Chapter 13 notwithstanding that their sources of income are not traditional periodic payments from an employer, but are in essence the debtor paying the debtor.2 Obvious examples are self-employed salespeople, professionals (physicians, attorneys, accountants), independent contractors and all variety of individuals doing business as sole proprietors.

[3]

Some self-employed individual debtors will also be “engaged in business.” This phrase of art is defined as an individual who is “self-employed and incurs trade credit in the production of income from such employment.”3 Not all self-employed individuals will incur trade credit; thus, not all self-employed individuals will be engaged in business for purposes of Chapter 13. Also, if the debtor’s business does not produce income, the debtor will fail the technical definition of being engaged in business.4 By statute, a debtor engaged in business is authorized to operate the business of the debtor in a Chapter 13 case.5 Though there is no explicit authority for a self-employed individual who does not meet the definition of a debtor engaged in business to continue to operate the debtor’s business, it is doubtful that any court would find such an individual ineligible for Chapter 13. A self-employed individual is eligible for Chapter 13 though not engaged in business, but such a debtor may face problems deducting business expenses to arrive at “disposable income” for purposes of the confirmation test in § 1325(b). The special responsibilities of a Chapter 13 debtor engaged in business are discussed elsewhere.6 When the business of the debtor is farming or fishing, the debtor may also be eligible for Chapter 12.7

[4]

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA)8 has conspired with the drafters of the bankruptcy forms to confuse the accounting for business expenses for a business Chapter 13 debtor—whether technically engaged in business or not. Detailed elsewhere,9 the foundation for calculation of the entitlement of unsecured creditors in a Chapter 13 case after BAPCPA is current monthly income (CMI) as defined in § 101(10A). There is controversy whether CMI is calculated based on a business debtor’s gross income or net income after expenses.10 The current version of Official Form 122C-1 requires Chapter 13 debtors to deduct business expenses from gross income on the way to calculating CMI.11 The plain language of § 101(10A) does not support this redefinition of CMI by the forms drafters. Business debtors with business expenses are left to struggle with the inconsistency between Form 122C-1 and § 101(10A).

[5]

Increases in the debt limits for Chapter 13 eligibility are likely to increase the volume of business debtors in Chapter 13 cases. As discussed elsewhere,12 in 1994 Congress raised the eligibility limits for Chapter 13 from $100,000 of unsecured debt to $250,000, and from $350,000 of secured debt to $750,000. On April 1, 1998, the limits adjusted again to $269,250 unsecured and $807,750 secured. On April 1, 2001, April 1, 2004, April 1, 2007, and April 1, 2010, the limits adjusted again. From April 1, 2007, to April 1, 2010, the numbers were $336,900 unsecured and $1,010,650 secured. On April 1, 2010, the limits automatically increased to $360,475 unsecured and $1,081,400 secured. On April 1, 2013, the unsecured debt limit became $383,175 and the secured debt limit became $1,149,525. On April 1, 2016, the unsecured debt limit became $394,725 and the secured debt limit became $1,184,200. Individual debtors engaged in business typically have trade debt and other business obligations in addition to the usual personal or consumer debts and thus are more likely than nonbusiness debtors to be pushed up against the debt limitations for Chapter 13. Increases in those limits will allow “bigger” debtors into Chapter 13, and business debtors may be more common in this new group of eligible debtors.

[6]

Debtors engaged in business who are eligible for Chapter 13 are also eligible for relief under Chapter 1113 and may be able to take advantage of the “small business” provisions added to Chapter 11 by the Bankruptcy Reform Act of 1994.14


 

1  See H.R. Rep. No. 95-595, at 319–20 (1977).

 

2  See § 12.1  Self-Employment.

 

3  11 U.S.C. § 1304(a).

 

4  See In re Schnabel, 153 B.R. 809, 819 (Bankr. N.D. Ill. Apr. 23, 1993) (Katz) (The debtor was not engaged in business, and alleged business expenses must be included in the debtor’s disposable income. A Chapter 13 debtor engaged in business is entitled to deduct reasonably necessary business expenses in arriving at disposable income for purposes of § 1325(b). Section 1304 defines “debtor engaged in business” as a debtor “that is self-employed and incurs trade credit in the production of income from such employment.” 11 U.S.C. § 1304(a) (emphasis added). The debtor testified that his business had never produced income and was not anticipated to produce any business income during the life of the plan. “The Court finds that the Debtor’s venture is a hobby more than a business and will not allow a hobby to be used as a basis for withholding payments from creditors.”).

 

5  11 U.S.C. § 1304(b) (“Unless the court orders otherwise, a debtor engaged in business may operate the business of the debtor.”).

 

6  See § 52.1  Operating a Chapter 13 Debtor Engaged in Business, § 52.2  Additional Filing and Reporting Requirements and § 52.3  Debtors Engaged in Business after BAPCPA.

 

7  See § 8.5  Other Chapters Too Expensive, Too Complicated or Unfriendly and § 147.1  Standing, Procedure and Strategic Considerations.

 

8  Pub. L. No. 109-8, 119 Stat. 23 (2005).

 

9  See § 36.19  Form 122C-1: Statement of Current Monthly Income, § 92.3  Current Monthly Income: The Baseline and § 95.15  Other [Necessary] Expenses—Unsecured Debts.

 

10  See § 92.3  Current Monthly Income: The Baseline.

 

11  See Line 53 of Official Form 122C-1, discussed in § 36.19  Form 122C-1: Statement of Current Monthly Income and § 92.3  Current Monthly Income: The Baseline.

 

12  See § 14.1  Dollar Amounts.

 

13  See § 8.5  Other Chapters Too Expensive, Too Complicated or Unfriendly and App. Z for discussion of individual Chapter 11.

 

14  Section 217 of the Bankruptcy Reform Act of 1994, Pub. L. No. 103-394, § 217, 108 Stat. 4106 (1994), as amended by Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub. L. No. 109-8, 119 Stat. 23, created a new “small business” Chapter 11 debtor with aggregate, noncontingent, liquidated, secured and unsecured debts not exceeding $2,190,000. This amount automatically increased, pursuant to 11 U.S.C. § 104(b)(1), on April 1, 2010, to $2,343,300, on April 1, 2013, to $2,490,925 and on April 1, 2016, to $2,566,050. A small business Chapter 11 debtor typically does not suffer appointment of creditors’ committees and is subject to somewhat less stringent provisions with respect to filing a plan and disclosure statement. Some debtors engaged in business who are eligible for both Chapter 11 and Chapter 13 will file a small business Chapter 11 to take advantage of Chapter 11’s broader provisions for managing secured and unsecured claims and the greater length of repayment plans possible in a Chapter 11 case. Compare 11 U.S.C. § 1123 with 11 U.S.C. §§ 1322 and 1325. See 11 U.S.C. § 1116 for the duties of a small business Chapter 11 debtor. See also § 8.5  Other Chapters Too Expensive, Too Complicated or Unfriendly and App. Z.