Chapter 10 Bankruptcy

What Is Chapter 10?

Chapter 10 was a type of corporate bankruptcy filing that was eventually retired due to its complexity. Chapter 10, originally known as “Chapter X,” listed the processes and procedures for bankruptcies involving corporations. It was used to determine whether a company merited reorganization and restoration to long-term viability or should be shut down and liquidated. 

Chapter 10 was introduced as part of the Bankruptcy Act of 1898 as a blueprint for reorganizing financially troubled companies and then later incorporated into the Chandler Act of 1938. It was eliminated by the Bankruptcy Reform Act in 1978. Its most useful ideas were rolled into Chapter XI, which later became the modern Chapter 11.

Understanding Chapter 10

Bankruptcy offers an individual or business struggling to repay outstanding debts a chance to start afresh. Creditors are prohibited from collecting any money they are owed, thanks to an automatic stay imposed by the bankruptcy court. The distressed company, the debtor, is given the option to either enter liquidation, the process of bringing a business to an end and distributing its assets to claimants, or work out a satisfactory repayment plan and continue operating.

In the United States there are several different categories of bankruptcies. Chapter 10 was one of the paths available, offering a framework for financially distressed companies to restructure their debt. This version of bankruptcy gave the debtor a shot at a fresh start, provided it fulfilled its obligations under the plan of reorganization.

One important element of Chapter 10 was that it required the bankruptcy courts to always act in the best interest of shareholders. Such a directive served to make the process of determining whether liquidation or reorganization was the better option — and then enacting either plan — both expensive and complex.

Chapter 10 controversially stripped company management from having any say in whether the businesses they ran should be restored to viability or liquidated.

Chapter 10 gave such wide-ranging powers and responsibilities to court-appointed trustees that company management was essentially displaced. As management was not involved in the process of deciding whether to reorganize or liquidate, trustees or other interested parties appointed by the court had to swear that they had no personal interest in the outcome as a condition of their service. This concept was known as “disinterestedness.”

Chapter 10 vs. Chapter 11

Chapter 10 was regarded as so complex, time consuming, and potentially expensive that it acted as a deterrent to declaring bankruptcy for corporations. Its rules were so wide ranging and especially detailed that corporations often chose Chapter 11 instead.

Chapter 11, which was originally intended for small, privately owned businesses and individuals, was made a viable bankruptcy option for corporations following a series of court battles.

In a Chapter 10 bankruptcy management is displaced, and a court-appointed manager or trustee oversees the reorganization or restructuring process. This is generally not the case in a Chapter 11 filing. Chapter 11 offers the advantage of not removing a company’s management, which means it can have a larger role in executing a reorganization.

Chapter 11 also allows management to have more of a say in how creditors are repaid and how assets are liquidated. Because it is relatively simpler, a Chapter 11 bankruptcy filing became the preferred option over a Chapter 10 for debtors and their lawyers, as well as creditors, even if shareholders no longer have paramount protection.