What Type Of Bankruptcy Can A Business File

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Small Business Partnerships And Corporations In Chapter 11 Subchapter V

Because Chapter 13 is only available to individuals and sole proprietors, partnerships and corporations that seek to stay open by restructuring debt must look to Chapter 11. Chapter 11 allows companies to operate while paying less toward debt.

In the past, many small businesses found Chapter 11 cost prohibitive because of the additional rights afforded to creditors and the increased legal fees that result. However, the relaxed procedural requirements of Chapter 11, Subchapter V give small business owners the option of restructuring debt using processes similar to Chapter 13 bankruptcy. Your bankruptcy lawyer can evaluate whether Chapter 11, Subchapter V will work for you.

Filing For Chapter 7 Bankruptcy As A Sole Proprietor

A sole proprietor typically uses Chapter 7 after a business closure . The benefit to the filer can be substantial because Chapter 7 will discharge both qualifying business and personal debts, thereby genuinely giving the debtor a fresh start. Unlike a Chapter 11 or 13 filing, Chapter 7 doesn’t require creditor repayment. And it’s fast, taking three to four months to complete.

The downside is that all business and personal property become part of the bankruptcy estate. But you won’t lose everything. Bankruptcy law allows you to keep “exempt” assets in Chapter 7, such as some equity in a home and car, household goods, a retirement account, clothing, and a small amount of the equipment needed in your profession. The Chapter 7 bankruptcy trustee sells assets that aren’t protected by an exemption and distributes the proceeds to creditors.

The downside? A filer with a sizable estate could lose property in Chapter 7including the actual business if it’s a company with valuable assets and the trustee was able to find a willing buyer. So if you own an attractive ongoing operation that you can’t protect , you could lose it in Chapter 7.

Important Tip: Keeping a Service-Only Business in Chapter 7

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What If I Have A Product

In a product-based business, a Chapter 7 bankruptcy may make sense for you even without the benefit of a discharge at the end. When a bankruptcy is filed, a Chapter 7 Trustee is appointed and it will be his/her job to do all of the leg work in winding down your business. This takes the liquidation of the business assets out of your hands and allows you to focus on your future, rather than going through the painful process of selling what you have worked so hard to build.

Which Bankruptcy Should I File

Your trustee can help you determine which of the different types of bankruptcy you should consider filing for. Keep in mind, there are some major disadvantages to filing for any type of bankruptcy, including: damaging your credit score and the ability to obtain future credit for a minimum of six years potential surrender of assets releasing your tax information and other detailed income/expense information.

The bankruptcy types explained here are meant to inform you of your options, but you should also understand that there are alternatives to declaring bankruptcy. One of these alternatives is whats known as a Consumer Proposal.

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Decide Which Type Of Business Bankruptcy To File

First and foremost, you need to decide which of the three types of small business bankruptcy youre going to file. As a reminder, Chapter 13 is only usually an option for sole proprietors and is suitable if you have a small amount of debt. With this option, your business can remain in operation.

Similarly, Chapter 11 will likely be your best option if you want to remain in business but need assistance reorganizing and affording your debt. Finally, business bankruptcy Chapter 7 will be right for you if you cant afford to continue operations and need to close your business.

How Does Filing Business Bankruptcy Affect Your Credit

In short, the impact to your credit from filing for small business bankruptcy depends on the type of business you have. If you are a sole proprietor, theres no legal separation between you and your business.

When you file for bankruptcy, the court can discharge your debtsâthat means that you no longer have to pay them back, but youll pay the price with a huge hit to your credit. Bankruptcies show up on your credit report for seven to 10 years and can damage your score by more than 130 points.

If you have a registered business entity, such as an LLC or corporation, the legal wall between you and your business means neither the unpaid business debts nor the business bankruptcy should show up on your personal credit report.

But, they will show up on your companys business credit report. Of course, its important to remember that if you signed a personal guarantee on any of your businesss debt, then the unpaid debt will show up on your personal credit report.

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How Will The Bankruptcy Affect Your Personal Credit

If you are operating as a sole proprietor, a business bankruptcy will have a significant negative impact on your personal credit. If you file under Chapter 13, the bankruptcy will stay on your pesonal credit for up to seven years from the bankruptcy filing date, and under Chapter 7 bankruptcy, it can remain for up to 10 years. The same goes for Chapter 11 bankruptcy.

If you are operating as an LLC or corporation, a business bankruptcy under Chapter 7 or 11 should not affect your personal credit. However, there are exceptions. As mentioned above, if you signed a personal guarantee for a debt, you will be liable for that debt if the business cant pay it. Pay the debt on time and your credit will be fine. If it goes unpaid, or you miss payments, however, it can have an impact on your personal credit.

Can I Operate My Corporation Or Llc After I File For Chapter 7 Bankruptcy Relief

This depends on several factors. First, if the bankruptcy trustee has liquidated the business, then no, you cannot continue to operate your corporation or LLC. However, it is very rare for this to happen. More often, a business has no or only nominal net value, and the Chapter 7 Trustee does not liquidate the business.

Second, if the Chapter 7 trustee did not liquidate the business, then you need to keep in mind that if you want to operate your business after bankruptcy, you will most likely have to continue operating your business during the bankruptcy case. Any increase in value of the business that occurs during the pendency of the bankruptcy case belongs to the bankruptcy estate. The bankruptcy case lasts until the bankruptcy trustee closes the estate, so if you intend to keep operating the business, you need to be cautious in creating new contracts and receivables.

Third, consider the remaining business debt . If the business assets are subject to a bank lien, the bank must continue to get paid by the business in order to prevent the bank from recovering the business assets. If the business has other debt, those creditors have a right to be paid by the business as well. It often does not make sense to continue operating a business after bankruptcy.

Fourth, consider whether it would be easier, simpler, and less stressful to close the business and form a new and different business.

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What Happens To The Company

Federal bankruptcy laws govern how companies go out of business or recover from crippling debt. A bankrupt company, the “debtor,” might use Chapter 11 of the Bankruptcy Code to “reorganize” its business and try to become profitable again. Management continues to run the day-to-day business operations but all significant business decisions must be approved by a bankruptcy court.

Under Chapter 7, the company stops all operations and goes completely out of business. A trustee is appointed to “liquidate” the company’s assets and the money is used to pay off the debt, which may include debts to creditors and investors.

The investors who take the least risk are paid first. For example, secured creditors take less risk because the credit that they extend is usually backed by collateral, such as a mortgage or other assets of the company. They know they will get paid first if the company declares bankruptcy.

Chapter 7 For Corporations And Llcs: Disadvantages

When you file for Chapter 7, you lose control of the company. The bankruptcy trustee takes over the business assets and determines whether it’s in the best interests of the creditors to sell the business as a whole or to sell off the assets.

If you’re liable for any of the business debt, this might cause a problem. After the bankruptcy, the amount of debt remaining will often be greater than if you took on the responsibility of selling the assets yourself. There are a few reasons this could happen.

• You might be able to get a better price for the business or assets .
• The sales proceeds will be reduced by the percentage the trustee will receive as payment.
• You won’t be able to negotiate and settle debt for an amount lower than what’s owed.

Any outstanding balance left after the trustee makes a payment will remain due and payable. As a result, you could be left with more liability than if you had negotiated with the creditors and sold the assets on your own.

Another disadvantage can prove to be even more expensive. Filing a case in bankruptcy court provides a disgruntled partywhether it be a creditor, business partner, or ex-spousewith a forum to air any number of complaints about the handling of the business finances. And most disputes have the potential to shift debt liability from the business to an individual.

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The Legal Formation Of Your Company May Affect The Bankruptcy Outcome

The legal organization of a small business usually takes one of three forms:

• a sole proprietorship
• an LLC
• a corporation

Either S-Corp or C-Corp (S corporations are those where profits or lossflow through to the shareholders, C corporations are taxed separatelyfrom their owners. In the case of an LLC, the organization blends elementsof both individual and corporate structure. The LLC, like the C corporation,has a legal existence separate and apart from the owners, and US businesscode provides for owners in LLC to have their liability for corporatedebts be limited.

Not all closely-held corporations can benefit from a strict black and whitetreatment as described above its important to have a contact a qualifiedbankruptcy attorney so you are fully aware of the circumstances for yourown situation.

If a business is operating as a sole proprietorship, the law does not recognizeany distinction between the corporation and the individual, though thespecifics of this portion of the code can vary by state.

In general, however, usually in this situation is the fact that due tothe close relationship of the individual to the business, a personal bankruptcyis also considered a business bankruptcy, and in Chapter 7, the courtwill regard the business as just another personal asset that may be liquidated.

Chapter 11 Proceedings: Pros And Cons

Chapter 11 cases are complex and expensive, which is the most significant disadvantage for small business owners. It’s also why Chapter 11 cases make up only a tiny percentage of bankruptcy cases filed. However, special procedures available through Chapter 11, Subdivision V can help lower costs for small businesses.

Important Chapter 11 advantages include:

• The plan creates new contract terms between the debtor and creditors and can be as long as needed, which is helpful for a small business debtor who needs extended payment terms on real property mortgages or equipment loans.
• If less than the full balance on a particular debt is to be paid in the plan, the debt discharge will occur at plan confirmation rather than after completion of the plan, unless the court approves a plan without creditor consensus in a Chapter 11, Subchapter V case.
• Chapter 11 doesn’t require debtors to turn over their disposable income to a trustee. The “debtor in possession” remains in control of the business.
• In Chapter 11, the appointment of a trustee to manage the case is the exception rather than the rule and usually appointed for gross mismanagement or fraud.

Also, small business debtors can take advantage of special provisions that help streamline Chapter 11 matters. You’ll qualify as a small business debtor under Chapter 11, Subchapter V if you’re an individual or entity who is:

For more information, see Chapter 11 Bankruptcy: An Overview.

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Chapter 11 Subchapter 5

The Small Business Reorganization Act is a new form of bankruptcy enacted by Congress in 2019. It creates a process under Chapter 11subchapter V that makes it easier and less expensive for businesses with less than $2,725,625 million in debt to restructure debt. The CARES Act temporarily raised the limit under the SBRA to $7.5 million in debt, provided that 50% or more of the business debts arise from business or commercial activities.

This new type of bankruptcy is already making it possible for more small businesses to restructure their business debts and remain in business.

Closing A Corporation Or Llc

When shutting the doors of a corporation or LLC, the corporate officer or the LLC’s managing member must sell off the company assets and distribute the funds to the creditors. Notice of proper closure must be filed with the secretary of state. Failing to follow these procedures could subject individuals holding an ownership interest to liability.

The requirements are intended to discourage the funneling of assets to insiders because a creditor loses the ability to collect any remaining balance from the business once the business closes.

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Are You Personally Liable For Your Business Debts

If you run a sole proprietorship, your business is not a legal entityin fact, you and your business are the same entity. Thus, you are liable for your business debts. This means that creditors may come after your personal assets if your business is unable to make payments on debts owed.

Owners of limited liability companies and S-corps may be liable for some debts for example, if you are an owner of a limited liability company or corporation but you personally guaranteed a specific business debt like a loan, youd be liable. In most bankruptcy cases, including Chapter 11 bankruptcy cases, the LLC and S-corp business entity owners are personally off the hook for the debts of their business for which there is no personal guarantee.

In addition its not uncommon to pledge personal assets like home equity in conjunction with a business loan. Filing for bankruptcy may allow you to protect that home equity or other assets from creditors.

Advantages Of Chapter 13 Bankruptcy For Small Business Owners

In Chapter 13, you get to keep all your assets and pay back all or a portion of your debts through a repayment plan. If you are a sole proprietor with a lot of business assets, a Chapter 7 trustee may sell them if you don’t have adequate bankruptcy exemptions to protect the property.

By filing a Chapter 13, you can protect all business assets and keep the business running while reorganizing your debts. Keep in mind, however, that you must pay the value of nonexempt assets through your repayment plan, which can pose a problem if your ownership interest in the business is substantial.

Even if your business is a separate entity like a partnership, corporation, or LLC, you can reorganize your personal liability for business debts with a Chapter 13. Further, you can do things with a Chapter 13 that you can’t in Chapter 7, such as:

• catch up on a house, car, or equipment payment
• pay off priority creditors, such as tax debt and domestic support obligations, and
• reduce some loans to the value of the property .

Best yet, you’ll get up to five years for your plan.

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Filing Bankruptcy As A Limited Liability Company

Operating as a limited liability company creates separation between the business entity and those involved in its operations. An LLC that files for Chapter 7 bankruptcy will result in the business assets being liquidated to resolve its debts.

Generally, the LLCs owners are not personally responsible for business debts unless, as with limited partners, the owners have personally guaranteed any of those debts. In that event, the owners may have to file personal bankruptcy to avoid their liability.

LLCs that simply have hit a rough patch and foresee a viable way forward also have the option of filing for reorganization under Chapter 11 bankruptcy. Once affordable only for large corporations, the Small Business Reorganization Act, which became effective in February, simplifies and streamlines Chapter 11 for small businesses. Check with an attorney for details.

Already, however, Congress response to COVID-19 has altered some SBRAs provisions. Among other important changes, the March 27 CARES Act raised the ceiling for new cases filed between March 28, 2020 and March 27, 2021, to $7,500,000 from $2,725,625.

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