Which Type Of Bankruptcy Is Right For You
Once you decide to file bankruptcy, the next decision is which type. There are several options, and each one is a little bit different. Chapter 7, 11, or 13 are the most common types of bankruptcy.
Its unlikely that your small business will file a Chapter 11 bankruptcy, as this is generally for larger companies and corporations especially those that are traded publicly. This type of bankruptcy is costly, and it takes a lot of time. Creditors wont want to go through the process, and most likely neither will you. However, if you have regular income and a very high personal net worth, you may still want to consider Chapter 11. Most small business owners dont fall under that category, so Chapter 7 or Chapter 13 will be much better choices.
If you want to keep your business but you need help getting your finances straightened out, you may want to consider a Chapter 13 bankruptcy. In this type, you enter into a repayment plan with your creditors. Your business can continue to operate, but youll probably spend quite some time paying most of your profits out under the agreement you made in bankruptcy court. Still, if your business has just hit a very rough patch and you want to see it succeed in the future, Chapter 13 could be an option. Businesses with income and asset values that are high, and relatively low amounts of debt, can be good candidates for a Chapter 13 bankruptcy filing.
What Is Business Bankruptcy
The type of bankruptcy that most people think of when they hear this word is Chapter 7. Filing for Chapter 7 bankruptcy usually results in liquidation. Business assets are distributed to creditors, so the business shuts down. This is the most common and least favorable type.
On the other hand, Chapter 11 and Chapter 13 do not share this reputation. These two usually result in the reorganization or consolidation of the businesss debts. Plenty of companies have filed for Chapter 11 or Chapter 13 while maintaining operations and are even alive and kicking today.
The type of bankruptcy you file for depends on your businesss debt and overall financial health.
What Happens To The Company
How Are Assets Divided in Bankruptcy?
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.
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Do I Have To File For Bankruptcy To Close My Business
No. If you can pay off your creditors or negotiate a deal with them, you dont need to file for bankruptcy protection. But you will want a lawyer to draft agreements.
Also: Dont forget about withholding taxes. When times are tight, many small-business owners who manage their own payroll dip into that pot of money they set aside at each pay period and use it for other expenses.
If you have unpaid withholding taxes, the business owner becomes personally liable, Ms. Clayson said.
Are You Getting A Refund
Refunds that are issued as a result of returns for years prior to the year of bankruptcy are considered to be the property of the estate in bankruptcy. As a result, these refunds will be sent to the trustee. Any refunds issued in relation to returns for years subsequent to the year of bankruptcy will be sent to you, unless the trustee has obtained a court order.
For the year of bankruptcy, any issued refund related to the pre-bankruptcy return will be sent to the trustee. Issued refunds related to the post-bankruptcy return will also be sent to the trustee if your bankruptcy assignment date is July 7, 2008, or later. Post-bankruptcy refunds that are issued for bankruptcies with an assignment date prior to that will be sent to you, unless the trustee has obtained a court order or has provided us with an Authorization and Direction letter.
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Who Can File A Plan
The debtor has a 120-day period during which it has an exclusive right to file a plan. 11 U.S.C. § 1121. This exclusivity period may be extended or reduced by the court. But in no event may the exclusivity period, including all extensions, be longer than 18 months. 11 U.S.C. § 1121. After the exclusivity period has expired, a creditor or the case trustee may file a competing plan. The U.S. trustee may not file a plan. 11 U.S.C. § 307.
A chapter 11 case may continue for many years unless the court, the U.S. trustee, the committee, or another party in interest acts to ensure the case’s timely resolution. The creditors’ right to file a competing plan provides incentive for the debtor to file a plan within the exclusivity period and acts as a check on excessive delay in the case.
Only the debtor may file a plan in a subchapter V case. 11 U.S.C. § 1189.
The Chapter 11 Debtor In Possession
Chapter 11 is typically used to reorganize a business, which may be a corporation, sole proprietorship, or partnership. A corporation exists separate and apart from its owners, the stockholders. The chapter 11 bankruptcy case of a corporation does not put the personal assets of the stockholders at risk other than the value of their investment in the company’s stock. A sole proprietorship , on the other hand, does not have an identity separate and distinct from its owner. Accordingly, a bankruptcy case involving a sole proprietorship includes both the business and personal assets of the owners-debtors. Like a corporation, a partnership exists separate and apart from its partners. In a partnership bankruptcy case , however, the partners’ personal assets may, in some cases, be used to pay creditors in the bankruptcy case or the partners, themselves, may be forced to file for bankruptcy protection.
Railroad reorganizations have specific requirements under subchapter IV of chapter 11, which will not be addressed here. In addition, stock and commodity brokers are prohibited from filing under chapter 11 and are restricted to chapter 7. 11 U.S.C. § 109.
What Will Happen To My Stock Or Bond
A company’s securities may continue to trade even after the company has filed for bankruptcy under Chapter 11. In most instances, companies that file under Chapter 11 of the Bankruptcy Code are generally unable to meet the listing standards to continue to trade on Nasdaq or the New York Stock Exchange. However, even when a company is delisted from one of these major stock exchanges, their shares may continue to trade on either the OTCBB or the Pink Sheets. There is no federal law that prohibits trading of securities of companies in bankruptcy.
Note: Investors should be cautious when buying common stock of companies in Chapter 11 bankruptcy. It is extremely risky and is likely to lead to financial loss. Although a company may emerge from bankruptcy as a viable entity, generally, the creditors and the bondholders become the new owners of the shares. In most instances, the company’s plan of reorganization will cancel the existing equity shares. This happens in bankruptcy cases because secured and unsecured creditors are paid from the company’s assets before common stockholders. And in situations where shareholders do participate in the plan, their shares are usually subject to substantial dilution.
I Want To Keep My Product
If your business has a lot of assets and you find yourself in a tough spot with creditors, Chapter 11 bankruptcy could be the way to go. Unlike a Chapter 7 bankruptcy, which will necessarily result in the liquidation and shutting down of your business, a Chapter 11 bankruptcy may be used to reorganize your business and its debts. In other words, you are given the opportunity to propose a plan on how to get everything back on track while under the protection of the bankruptcy court.
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Drawbacks Of Chapter 7 Bankruptcy For Small Businesses
Unless you’re a sole proprietor filing bankruptcy, your business won’t receive a discharge of its debts in Chapter 7. So, if you’re somehow responsible for the business debtfor instance, you signed a personal guaranteeyou’ll still be on the hook unless you file a personal Chapter 7 bankruptcy.
Also, a business entity can’t use exemptions to protect assets in business bankruptcy. As a result, the trustee sells all of the business assets to pay creditors, and the business gets shut down.
In most cases, a business owner can get a better price for the business assets, and thereby pay down a more significant share of the business debt. This will leave less debt to be paid by the owners.
Plus, putting a business in bankruptcy opens the door for creditors to lodge objections or to claim that corporate formalities weren’t followed and that the members or shareholders should pay business debt with personal assets. To learn more, see Piercing the Corporate Veil: When LLCs and Corporations May Be at Risk.
What Is Chapter 13 Business Bankruptcy
Chapter 13 business bankruptcy is Chapter 11 for smaller businesses. To file Chapter 13, you cant owe more than $419,275 in unsecured loans or $1,257,850 in secured loans. For this reason, Chapter 13 is used primarily by sole proprietors since they tend to have very few creditors. Those debt limits change periodically based on factors like inflation and the average cost of living.
If you file for Chapter 13 as a sole proprietor, you must file under your name instead of the businesss name. Sole proprietorship lacks the legal protection of registered business entities. Theres no legal difference between personal assets and business assets. The trustee will, therefore, review your personal assets when evaluating your eligibility for Chapter 13 as well as your reorganization plan.
Earlier, we mentioned that sole proprietors are the only business entity that can have debts discharged. Hence, some sole proprietors who file for Chapter 13 only have to pay back some of their debt.
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Unexpired Leases And Executory Contracts
In Chapter 11 cases, debtors have the option to assume or reject unexpired leases and other executory contracts. An executory contract is a contract under which the parties still have duties to perform. While the debtor decides to assume or reject the lease or executory contract, the creditor must continue performance. This means that a business cannot stop acting according to leases or contracts with a customer just because that customer filed for bankruptcy.
If a debtor assumes an unexpired lease or executory contract, the debtor must cure any defaults, including those that occurred prior to filing for bankruptcy. Alternatively, the debtor must provide adequate assurances that the defaults will be cured promptly. The debtor must continue to perform on an assumed lease or executory contract. If the debtor defaults after assuming the lease or executory contract, then the creditor may have a claim for damages against the defaulting debtor that is granted higher priority over other creditors claims.
If the debtor rejects an unexpired lease or executory contract, then the lease or contract is treated as though it was breached as of the day the debtor filed for bankruptcy, and the creditor may have a claim for damages. A creditor may stop performing under a lease or executory contract once a debtor rejects it and the bankruptcy court enters an order approving of the rejection.
Small Business Reorganization Act Of 2019
In August 2019, the Small Business Reorganization Act of 2019 was passed by the U.S. Congress and signed into law by the President. It enacted a new subchapter V of Chapter 11. The act is in effect as of Feb. 20, 2020. This subchapter of Chapter 11 seems to favor the side of the applicant for business bankruptcy. It only applies if the applicant wants it to apply.
For example, subchapter V does not require that a committee of creditors is appointed or that creditors have to approve a court plan.
Sole proprietorships or incorporated entities should consult with a good business bankruptcy attorney before deciding on which type of bankruptcy you will file or whether you need to file bankruptcy at all. There may be other options that can be explored.
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Filing For Chapter 13 Or Chapter 11 Subchapter V As A Sole Proprietor
If you want to continue operating a company, consider filing for Chapter 13 bankruptcy . You’ll be able to continue operating the business as long as the business has enough cash flow to meet the required Chapter 13 monthly payments, which can be more affordable than the current obligations in many cases.
Because you don’t give up property in Chapter13, it can work well if you need more property to run your business than you could keep under Chapter 7, or if the Chapter 7 trustee would sell your business.
Keep in mind, however, that this benefit comes at a price. You must pay creditors an amount equal to the value of your nonexempt property through the repayment plan. And you must be able to prove that you have sufficient self-employment income to support the bankruptcy case. So if your business requires expensive equipment that you can’t protect with a bankruptcy exemption and the business doesn’t earn enough to pay the equipment’s value through the plan, a Chapter 13 won’t be feasible.
If your business is closed and you don’t qualify for Chapter 7, consider Chapter 13 bankruptcy. You can pay off your debt over three or five years without worrying about creditor collection actions.
Should I File Personal Bankruptcy If My Business Closes
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This pandemics cold hard reality is that many Canadian small businesses wont survive the economic fallout from COVID-19. Given the virus unprecedented circumstances and sometimes haphazard government support for small business owners, there was bound to be collateral damage beyond skyrocketing infection rates.
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The Sole Proprietor And Chapter 13 Bankruptcy
Only individuals can file a Chapter 13 bankruptcy case. So if your business is a partnership, corporation, or LLC you cannot file Chapter 13 on its behalf.
If you are a sole proprietor, you can include both personal and business debts in your Chapter 13 bankruptcy just like you can in a Chapter 7 bankruptcy. A Chapter 13 bankruptcy might be your best option if the sole proprietorship has income coming in. You might be able to keep the business going while paying a lesser amount on both personal and business obligations that are nonpriority unsecured debtsuch as credit card bills, utility payments, and personal loans.
You might run into a problem, however, if your sole proprietorship requires you to keep a lot of goods, products, or expensive equipment on hand. Although Chapter 13 bankruptcy allows you to keep your property, you still must be able to protect it with a bankruptcy exemption . Otherwise, you have to pay the value of the nonexempt assets in the three- to five-year repayment plan. For instance, if you owned $150,000 in nonexempt construction equipment, you’d need to pay your creditors $2,500 per month, plus any other required amounts, for five years.
Because many business owners are tight on cash, keeping all the property that you need might not be feasible if you don’t have enough coming in to pay a hefty monthly plan payment.
Making The Best Of A Grim Situation
To most people, bankruptcy has a negative image. And for good reason: A filing almost always means theres not enough money to go around.
But the system makes the best of a grim situation by imposing an orderly and open process that preserves value and encourages negotiation. Bankruptcy reorganizations by well-known brands such as Delta and General Motors show that it can bring parties together and resurrect struggling companies.
At the most fundamental level, the Bankruptcy Code creates an estate to collect all of the debtors assets into one place, identify and categorize claims against the debtor in terms of priority and then distribute the assets accordingly.
Exactly how those three core tasks play out in a given case will vary depending on what type of bankruptcy case the debtor files and specific facts about the debtor.
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What Are The Implications Of Filing Personal Bankruptcy
Province-to-province, the rules differ. But regardless of where you live, there are consequences to filing insolvency.
First, you may lose some personal assets. There are provincial and federal bankruptcy exemptions, including essential personal and household assets , a small car and most RRSP and pension savings. However, if you have equity in your home or non-registered investments, these will need to be liquidated to satisfy your creditors. In these situations, most people choose to file a consumer proposal as an alternative to bankruptcy as a consumer proposal allows you to keep possession of all your assets.
If you are a shareholder in a company and file personal bankruptcy, your shares become property in your bankruptcy estate to be sold for the benefit of your creditors. This may be a consideration if you own other companies.
One area of concern for tradesperson is tools of the trade. Most provinces have exemptions that allow you to keep a certain dollar value of tools and equipment or business assets necessary to operate your business and earn a living. In Ontario, you can keep up to $14,405 in tools and equipment .
Most provinces, including Ontario, have legislation prohibiting someone who is bankrupt from being a director of a company until they are discharged. Upon filing bankruptcy, you must resign. Once you are discharged, you may be appointed as director again. You can file a consumer proposal and remain a director since you are not bankrupt.