One of the first questions you need to ask yourself when planning to close up shop is whether you may be personally responsible for some or all of the company’s debt. Even after you shutter the business, you may fear that you owe the creditors and that the debt will follow you into your next business venture. This is an important question and the answer is a complicated one that turns on a number of factors, such as the legal structure of your business and what types of guarantees you may have signed. Although closing your business doesn’t make your debt go away, you can sometimes negotiate a deal with the lender so that you don’t have to pay it in full. This is called a settlement. But before you can settle anything, it helps to know whose debt it really is.
Separate Legal Entity
If you’re in a sole proprietorship and don’t have a separate legal entity, you face the greatest level of personal risk. Any creditor of your business can pursue a claim against your personal assets and not just the company’s. Should you not have the assets to cover the debt, the creditor can sue you personally and obtain judgments, liens, and pursue collections. That means that creditors can recover debts against you as an individual, even after you close.
How exposed you are depends a lot on how you set up your partnership. If you formed a general partnership, everyone in it is personally liable for every debt of the company. In a limited partnership, the limited partners are shielded from liability, but general partners aren’t. In a limited liability partnership, the rules get fuzzy, since they vary from state to state. In some states, no partner has personal liability. In others, partners might be personally liable for contractual obligations. In some states, you have to have at least one general partner, which brings back personal liability. In some states you’re only protected from negligence lawsuits, not other debts. You can see how tricky the limited liability partnership is, and why it’s worth knowing which kind you formed.
LLCs and corporations are designed to create a wall between your personal liabilities and those of the business. If the company runs into legal trouble, owners of an LLC can’t be held responsible for its debts. From a federal tax standpoint the IRS considers an LLC to be a pass-through, so you still report its earnings to the IRS on your personal income taxes, but if you formally file the LLC with your state that sets up a formal business structure that protects you. For corporations, members who own shares in the business also can’t be held responsible for the company’s debts, and this is true of both S corps and C corps. The board of directors that runs the business also isn’t personally responsible for its debt. However, that doesn’t mean you can shrug your shoulders and walk away from your debts.
End up on the Hook for Company Obligations
Even if you’re in a limited partnership, LLC, or corporation, there are still two ways you can end up on the hook for company obligations. The first is commingling. If you mixed your own money with the company’s, you may have pierced the corporate veil. This means you didn’t maintain the separation between your personal and business assets, so the company’s creditors may be able to go after your personal assets. If you have an LLC or an LLP or a corporation you need to maintain business accounts that are totally separate from your personal accounts. Yes, that includes a single-member LLC — you need a separate bank account and your records must be kept separate, too. If you deposit a personal check into your business account or take a business withdrawal to cover a personal expense, or otherwise blur the lines, you could be opening yourself up to personal liability.
The second is if you sign a personal guarantee for any of the business’s debts. In that case, your personal assets are at risk, and the company’s creditors for that debt can pursue you directly. For example, if you personally guaranteed a business loan, you could still be held responsible for that loan even after the company is closed.
When it comes to business debt, many people believe that if they aren’t personally listed as a guarantor for any loans, they aren’t liable for the business debt. However, payroll taxes are different. If you don’t pay your payroll taxes, you are personally responsible even if your business is an LLC. Section 6672 of the IRS Code says responsible persons are liable for any payroll taxes that don’t get paid. Responsible persons may include officers, directors, accountants, and more. You are also on the hook for any penalties and interest the IRS charges on those taxes.
The same goes for a corporate credit card such as a Brex or Ramp card. Even if you think of it as the company’s card, check the fine print to see if the card issuer requires you to sign a personal guarantee. If they do, you’re on the hook for that debt just as much as the company.
If a Business Is Insolvent
There are four options if a business is insolvent: you can work something out with your creditors, create an assignment for the benefit of creditors (ABC), file for bankruptcy, or just shut it down. Unfortunately, closing up shop won’t get you off the hook if you signed a personal guarantee. For an owner whose business is already closed, negotiating is where we come in.
If you’re no longer operating a business, but want to deal with the lenders and creditors who extended credit to it, we can help. Delancey Street is a business debt settlement company. Based in New York City, we work with owners in 49 states. We were founded by debt-relief professionals and former merchant cash advance industry executives. While we’re not a law firm, we’ll refer owners to independent lawyers for matters such as bankruptcy, litigation or tax issues when those are the right solutions. Our specialty is MCA debt, including stacked advances. We also negotiate SBA loans, equipment finance loans and lines of credit. Our senior advisors negotiate with funders and lenders to reduce debt for less than the full balance owed. We don’t sell another loan. Your first consultation is free and confidential. If your case can’t be won, or a cheaper option exists, we’ll tell you on that first call.
