Bankruptcy for Businesses
Federal bankruptcy law aids business in dealing with their unmanageable debt. Businesses may file under one of the three chapters of bankruptcy, Chapter 7, Chapter 11, or Chapter 13. In some cases the business may remain open during bankruptcy and in others they must shut down. Bankruptcy provides an orderly way of closing down a business and may be a way to get out of an oppressive lease. Best of all, filing for bankruptcy does not prohibit you from starting a new business. There are many reasons why a business may fail, and most of them are beyond your control.
Chapter 7: the straight or liquidation bankruptcy
Chapter 7 is designed for businesses who wish to close the business permanently, while the valuable assets may be liquidated and used to pay off the debt, discharging the filers obligation to pay. Chapter 7 is available to all types of business entities.
The Chapter 7 business bankruptcy commences by filing a petition with the local bankruptcy court. Upon filing, an “automatic stay” goes into effect, which means the creditors are prohibited from making any attempt to collect their debt, including attempting foreclosure and repossession. The business debtor also files various written “schedules” and “statements” notifying the Court of any outstanding debts, current income and expenses, any current contracts, any current or potential lawsuits, and any recent asset transfers. Once the Court receives the bankruptcy petition, a Bankruptcy Trustee is appointed to handle the business debtor’s case. The Trustee’s job is to collect and sell the businesses assets and uses the proceeds to pay off the creditors. Once this is completed, the Bankruptcy Court discharges the remaining debt and closes the bankruptcy proceeding.
Chapter 11: the corporate reorganization bankruptcy
Chapter 11 is available to corporations since they do not qualify for a Chapter 13. Chapter 11 allows businesses to reorganize their debts and pay them off over time. Businesses are allowed to remain operating during the bankruptcy while they pay off their debts. They are allowed up to six years to make payments. Chapter 11 is available to all types of business entities including corporations.
Similar to Chapter 7, the Chapter 11 business bankruptcy also commences by filing a petition with the local bankruptcy court. Upon filing, an “automatic stay” goes into effect, which means the creditors are prohibited from making any attempt to collect their debt, including attempting foreclosure and repossession. The business debtor also files various written “schedules” and “statements” notifying the Court of any outstanding debts, current income and expenses, any current contracts, any current or potential lawsuits, and any recent asset transfers. Once the Court receives the bankruptcy petition, a Bankruptcy Trustee is appointed to handle the business debtor’s case. The Trustee’s job is to collect and sell the businesses assets and uses the proceeds to pay off the creditors. Once this is completed, the Bankruptcy Court discharges the remaining debt and closes the bankruptcy proceeding. The business debtor then submits a reorganization plan to the Trustee for approval. This plan will include a proposed repayment schedule. It might also include requests to terminate burdensome leases and contracts or to recover assets. Once the Court approves the plan, the business may begin operating under the reorganization plan. Once the plan is completed successfully, the balance of the businesses debts are discharged by the Court and the bankruptcy is concluded.
Chapter 13: the reorganization bankruptcy
Chapter 13 is available to sole proprietors but they must file as individuals who include business debts for which they are personally liable. Chapter 13 is not available to corporations.
Similar to Chapter 11, the Chapter 13 business bankruptcy also commences by filing a petition with the local bankruptcy court. Upon filing, an “automatic stay” goes into effect, which means the creditors are prohibited from making any attempt to collect their debt, including attempting foreclosure and repossession. The business debtor also files various written “schedules” and “statements” notifying the Court of any outstanding debts, current income and expenses, any current contracts, any current or potential lawsuits, and any recent asset transfers. Once the Court receives the bankruptcy petition, a Bankruptcy Trustee is appointed to handle the business debtor’s case. The Trustee’s job is to collect and sell the businesses assets and uses the proceeds to pay off the creditors. Once this is completed, the Bankruptcy Court discharges the remaining debt and closes the bankruptcy proceeding. The business debtor then submits a reorganization plan to the Trustee for approval. This plan will include a proposed repayment schedule. It might also include requests to terminate burdensome leases and contracts or to recover assets. Once the Court approves the plan, the business may begin operating under the reorganization plan. Once the plan is completed successfully, the balance of the businesses debts are discharged by the Court and the bankruptcy is concluded.
Which chapter should I use to file for my business bankruptcy?
Determine if your business is a corporation, partnership, joint venture, or simply a "dba"/sole proprietorship, then see the explanations below.
Sole Proprietorships/dbas/individual businesses — If the business is not a corporation or legally formed partnership, but is a sole proprietorship or husband and wife operation, then the business owners are personally liable for the debts. You will need to look at the same options as you would for a personal bankruptcy, which includes Chapter 7, Chapter 11, and Chapter 13. Business and personal debts are treated as one and the same, not separate.
Corporations, Partnerships, and LLCs — If the business is a corporation, partnership, or Limited Liability Company, then you only have two bankruptcy chapters to file under. If you want to remain in business and reorganize the business' debt, use Chapter 11. If the business has stopped operating or intends to stop operating by having its assets liquidated, use Chapter 7. However, a corporation does not receive a discharge of its debts in a Chapter 7 case. Filing a Chapter 7 does relieve the business debtors from handling the liquidation and distribution of the assets to the creditors. Filing also limits the business debtors of future liability from the creditors claiming that the assets could have sold for more. Filing also prevents the business debtor from multiple unnecessary lawsuits since the creditors are notified of the businesses closure.
It is important to note that unless there are sufficient assets to payoff all the debts 100%, filing a Chapter 7 does not eliminate the personal obligations of the corporation's officers or principals completely. If a business debtor signed a personal guarantee for a corporate debt, or is otherwise obligated for a corporate debt, then the debtor will remain obligated after a corporate Chapter 7 case. If you are concerned about personal obligations for your business debts, consider filing a personal bankruptcy under Chapter 7, 11, or 13.
In a general partnership, the General Partners are personally liable for all of the business partnership debts. Limited partners do not have unlimited liability.
Should I reorganized under Chapter 11 or 13 or liquidate my business under Chapter 7?
First, consider the factors that led to the businesses financial trouble. Poor markets, declining revenue, and poor management will not be helped by reorganization.
Reorganization may be a good choice if your market is strong, revenues are expected to grow, and your workforce is skilled and well managed. Reorganization may free up cash, eliminate burdensome leases and contracts, and prevent credit collection actions causing a loss of cash or assets. Reorganization may also provide breathing room you need to sell the business. The proceeds could pay taxes or unpaid salaries. Selling the business may also secure your workers positions avoiding layoffs under new ownership.
If the business is one that you could easily start up again after a liquidation of the current business, consider filing under Chapter 11 or 13. A business that requires very little capital, has few assets, or is simply an extension of the owner's skills is one that may not pay to reorganize. The owners may be better off liquidating the business and starting over in a fresh business entity. This can be a complex task and requires good professional advice to do correctly.
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