We talk with business owners under the stress of debt all the time. Many are thinking about bankruptcy. Before you file, there are eight decisions you have to make. Most of them depend on whether you operate as a corporation or an LLC, and on whether you personally guaranteed anything. Here they are, roughly in the order they come up.
The first decision is really a question: how exposed are you personally? If you form a corporation or limited liability company (LLC), remember, that entity exists separately from you as the owner. It can own property and incur debt. When you form a corporation or LLC, you are trying to limit your liability if the business fails. However, many small business owners are required by banks or SBA to personally guarantee the loan. And if you personally guaranteed the debt, it becomes your personal debt. It’s not magically taken away. If you’re an owner of a corporation or LLC that’s looking to file for bankruptcy, you likely have two sets of debt to deal with: (1) business debts and (2) personal debts, including personal guarantees of business debts.
Business Bankruptcy Process
Second, decide which chapter, if any, the company itself files under. A corporation or LLC has two choices: Chapter 7 or Chapter 11. When a business files for Chapter 7, the doors close, a trustee is appointed who liquidates all of your business assets and pays the proceeds to your creditors. The business does not get to exempt any property from the trustee’s liquidation, and the business is not given a discharge, so it just ceases to exist. Even though all of the business debts are still technically outstanding, there’s nobody left in the business to pay them. If you guaranteed the debt, the lender can still pursue you for it, but otherwise the debt simply goes away. Chapter 11 deals with complex business restructuring. Chapter 11 can give an operating business longer to pay its debts. It costs too much for most, so it’s usually only for the large, potentially profitable business.
Third, decide whether the company needs to file at all. If the bank has an overriding lien on all the assets of the business, then there may be no reason to file. If there are few or no assets, then as the business owner, you could walk away and let creditors send accounts to collection agencies or get judgments. If you did not give personal guarantees or if you already filed bankruptcy personally, then you are not personally affected. And creditors often won’t bother chasing a business that has no assets. If you are constantly harassed, you may choose to file Chapter 7 for the business to relieve the pressure.
Fourth, if you do file for the company, be clear about what a formal shutdown buys you. Chapter 7 of the business bankruptcy process is orderly liquidation of your business, overseen by the bankruptcy trustee and the bankruptcy court. This can be useful if the owner wants to show that business is truly closed and that the shutdown was executed by an independent third party. This can protect owners if creditors are aggressive.
Personal Bankruptcy
The fifth decision is about you rather than the company. You, as the owner, can file a personal bankruptcy, either a Chapter 7 or Chapter 13 bankruptcy, if you otherwise qualify. If you have more than 50% business debt, however, you can qualify for a Chapter 7 even if you fail the means test.
Sixth, if Chapter 13 is on the table, decide whether the business can keep running. You might be able to keep running your business during your Chapter 13 case. There are two tests that must be met. First, the business must be generating net income for you and not building up new tax or other debts. Second, your Chapter 13 plan must pay unsecured creditors at least as much as they would have received in a Chapter 7.
Seventh, find out what your stake in the company is actually worth. In a Chapter 7 case, the trustee will examine the net value of your shares or membership interest in the business, not the net value of the assets of the company, because you don’t own the business assets. The trustee could also sell your shares to a new owner. The liquidatable value is all of the assets of a business; inventory, receivables, cash in bank, equipment, and property are all examples of business assets. It does not include goodwill. The business’s debts are subtracted from the assets to get liquidatable value. If the assets are worth less than the debts, the business has no liquidatable value and the trustee is unlikely to liquidate it. Where there is net value, the owner of the business can claim the shares or membership interest in the business exempt, to the extent allowed, by using the federal wildcard exemption or the spillover exemption. 11 U.S.C. 522(d)(5).
The last decision is whether to keep the business going at all. Can you keep operating your LLC after a personal Chapter 7? If the trustee liquidates the business, no. That is very rare, though; more often the business has little or no net value and the trustee leaves it alone. But then, in order for you to keep operating it, you’ll most likely have to keep operating it during the case. If you still operate while the bankruptcy case is pending, any increase in the value of the business is part of the estate. And the case lasts until the trustee closes the estate, so you’ll need to be careful about entering into new contracts and receivables. Your personal bankruptcy only eliminates your personal guarantees, not the business debt itself. If the bank has a lien on any business assets, the bank will expect the business to keep paying the loan, or it can take back those assets. And other business creditors can expect to get paid, too. Often it doesn’t make a lot of sense to keep a business running after you’ve been through bankruptcy. It might be easier, simpler, and less stressful to just shut down and start a new one.
We Are a Business Debt Settlement Company
At Delancey Street, we are a business debt settlement company. We are not a law firm. We negotiate with funders and lenders to settle business debt for less than the full balance. And when bankruptcy is the best course of action, we will tell you. And we refer our clients to vetted independent bankruptcy attorneys. The first consultation is free and confidential. Get someone to talk to before you make these decisions.
