Nearly 50 years has passed since the last major change in bankruptcy law. The financial landscape now where debtors go through bankruptcy is very different. Is the Bankruptcy Code still achieving its fundamental goals, and are there ways to improve it?

Many of my fellow bankruptcy professionals know that we’ve been busy, but for the record, the Administrative Office of the U.S. Courts reports a 33.5% increase in business bankruptcy filings for the year ending September 30. That’s down from the year-to-year figure of 40% in July, suggesting the recent surge of filings may have peaked or maybe an anomaly due to small business debtors perceptively filing in advance of the reduction in the debt limits eligibility.

We also know filing numbers don’t always tell the full story. Some bankruptcies, like that of Steward Health Care, involves over one hundred of individual filings that are really from the same company and where multiple entities are consolidated into one docket. However, there is a larger issue at play — one that bankruptcy policy experts and, eventually Congress, should consider. While bankruptcy is one of only two areas of law mentioned in the Constitution, it took Congress until 1898 to pass the first comprehensive bankruptcy laws, which they overhauled in 1938, and superseded by the current Bankruptcy Code in 1978. Over that time the system stood for people and businesses with overly burdensome debt getting a financial fresh start while creditors receive an equitable distribution of assets.

Nearly 50 years has passed since the last major change. The financial landscape where debtors go through bankruptcy is very different. Private equity purchases, such as those involving recent Chapter 11 cases for companies such as Big Lots and BurgerFi, are just one major shift. The advent of merchant cash advances and new asset-backed financing puts pressure in new ways on distressed companies.

Developments like these pose this question: Is the Bankruptcy Code still achieving its fundamental goals, and are there ways to improve it?

Bankruptcy Addressed Changing Economic Challenges

Bankruptcy law has been used to address big and hard changes in our economy and society. Asbestos bankruptcies created a methodology to treat mass tort victims on a broad scale. Bankruptcy allowed society to absorb the changing retail marketplace and the closure of big box stores like Sears, Toys-R-Us and Pier1 Imports. They also established a mechanism to address the Boy Scouts and Catholic Church bankruptcies to compensate victims of systemic abuse.

Each of these examples show the insolvency system providing an equitable way to distribute assets and ensuring the ongoing mission of a business organization, one that allows the economic and human resources to our society, get a fresh start.

One can expect the same with today’s challenges. The commercial real estate world is going through a complex restructuring as the market adjusts to the post-COVID-19 workplace. The healthcare market is going through seismic changes as the delivery of medical services is rapidly changing and evolving. For example, telemedicine allows a physician to see and treat patients, including some with severe conditions, while being miles and time zones apart from their patients.

New Pressures on Distressed Companies

Today’s economic forces, those that drive financial success and distress, have become more complex. A key example is the rise of private credit. Although bank financing and the public debt market still are important, the financing of businesses through private debt has grown tremendously in recent years. Not bound by banking regulations, private equity firms can have higher demands with more control over the companies they finance.

The continued growth of asset-based lending and other new financing mechanisms, such as the development of the merchant cash advance marketplace, has added pressure to distressed companies. This is especially acute when any bump, hiccup, failed product launch or bad quarterly earnings report may prompt an insolvency, and the market is neither forgiving nor patient.

Given that capital can flow to so many places in our economy, lenders don’t want risk. They would rather pull the plug and mitigate damages and move money to greener pastures. Even traditional bank lending has limits on flexibility. Bank customers with loan defaults should expect early intervention by lenders. The massive increase in regulation in the aftermath of the Great Recession has required banks to address problem loans promptly rather than simply “kicking the can down the road”.

A corollary impact on modern bankruptcy practice is the desire for speed. Lawyers, advisors and inventory carry enormous costs. Often for distressed companies, a quick sale at the best available price, is a good outcome. Senior management often gets lucrative incentives to stay through a bankruptcy to ensure a quick and smooth transition to new ownership, while labor gets to keep jobs and suppliers keep customers. The incentive mechanisms for having a lengthy corporate reorganization simply do not exist in many cases. Thus, speed and certainty are at a premium and are often best delivered by a quick sale process that the bankruptcy code can allow.

The 2020 Example

If reforming our bankruptcy system to address big changes in big business financing structures sounds daunting, consider a recent development in the laws surrounding small business corporate bankruptcies. Congress, recognizing that small business cases are very different than large restructuring cases, adopted a small business Subchapter V that became effective in 2020. This new restructuring law allows small corporate debtors efficient and speedy access to the bankruptcy court.

These small business cases incentivize owners by eliminating the absolute priority rule, thereby thwarting the default for small business owners to simply liquidate. The small business chapter mandates an independent trustee to oversee the process and implements an expedited statutory framework. These changes, and others, for small businesses reflect the value of both speed and certainty. After a slow start, the bankruptcy Subchapter V provisions are now serving an increasing number of small business cases. Strategic goals for the bankruptcy process are met by being speedy and cost effective.

Overriding all of these developments is an additional factor that has enhanced the speed and certainty of outcomes in bankruptcy cases — the development of the law. In the early days of the Bankruptcy Code, lawyers and their clients didn’t know the answer to many of the statutory construction issues reflected in this complex field. The development of uniform law application has been achieved by time and experience. Case authority has established well recognized “rules of the road” that simply did not exist in the past. This development allows for greater certainty and predictability of outcomes.

As stated at the onset, the insolvency community is at an inflection point. Do our bankruptcy laws need change to balance interests similar to what happens in small business bankruptcies? Alternatively, does the current Bankruptcy Code adequately provide the tools to ensure fair treatment and a fresh start while ensuring speed and efficiency? These questions are pending. Absent a groundswell of support for change, it is likely that large commercial cases will continue to put a premium on being cost-efficient and timely. The high cost that is likely to come with significant change to the current bankruptcy laws may be simply too high of a bar to hurdle. As a result, the insolvency community is likely to continue down its current path of maximizing speed and efficiency and using the present bankruptcy scheme adopted almost 50 years ago.

Reprinted with permission from the January 1, 2025, edition of ALM’s Bankruptcy Strategist © 2025 ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-257-3382 or reprints@alm.com