The owners of an incorporated business can still face personal risk after the business fails.
You wanted to incorporate, because that can shield your personal life from your business. It worked: a corporation is a separate person for most purposes, so a healthy one should not create a liability for you.
But your business has failed. You closed the door. Many people mistakenly believe they are finished at this point.
That’s not true. Without the right steps, the business can still endanger you.
After a bankruptcy filing, will you be free of the corporate debt? Is filing worth it, or will you lose just as much or more?
A Trustee Is Appointed
When a company goes under, it usually files Chapter 7 bankruptcy. A trustee is appointed. The trustee gathers the assets and sells them, trying to pay the creditors back as much as possible.
The trustee is now in charge of the corporation’s assets. The trustee, with the judge overseeing, decides when creditors get paid.
The trustee also has the power to get back payments it identifies as preferences or fraudulent transfers. This is where things get more complicated for the company’s owners.
Five Possible Problems
Before you file, think through five possible problems. Any one of them could change your mind.
If taxes withheld from employees’ pay are not remitted to the proper federal and state agencies, each officer of the corporation can face personal liability for the amount not paid. And this includes anyone who might be able to sign checks on the corporate bank account.
Your personal liability doesn’t depend on the corporation being in or out of bankruptcy.
In fact, filing bankruptcy for the corporation may actually help the officers. It can keep aggressive, non-tax creditors away from what little assets there are, so they go toward the payroll tax. Then too, every payroll tax payment the trustee makes is another dollar that comes off what the officers owe personally.
Still, the trustee is not working for free. The trustee may bring in accountants and other professionals, dig through old records, and go after anyone who still owes the corporation money.
And the cost of that effort comes off the top, before those priority tax debts.
So bankruptcy could leave the officers worse off on payroll taxes: a longer wait to reduce personal liability, and a smaller pot for the trustee to take it out of.
Commercial landlords, the professional landlords who have buildings of office and industrial space to rent to companies, regularly make the owners personally guarantee the tenant company’s lease. Some of them make you sign the lease as the tenant in your own name from the very start.
Does your lease have a personal guarantee? In that case, you remain liable personally for the company’s rent. Bankruptcy for the tenant company will not end your personal liability.
Once the corporation files for bankruptcy and a trustee is appointed, the trustee holds the keys.
Trustees often move quickly, to return the leased space so it can get re-tenanted.
Rent owed before the bankruptcy filing doesn’t count as a priority claim. Any payment to the landlord may be small, and it may not come for a long time. Meanwhile you remain personally liable for the rent.
Nearly every credit card has a real person standing behind it. Even when the card is in the name of the company, the applications often carry the owner’s own promise to pay.
If you signed to be personally liable on the card, you remain liable for that. And it doesn’t matter whether your corporation files for bankruptcy.
It can be worse than that. Some of the so-called business credit cards out there are really issued in the name of the business owner and not of the business, so the business may not owe anything on them at all.
Bankruptcy won’t make the card situation worse. Does your corporation owe its card balances? If so, credit card issuers may get some payment on the balance owed. But it will take a long time.
Filing bankruptcy for the corporation could also lead the trustee to sue you, the owner, to recover a preference.
Say you and the company both owe the same debt. If the company pays on it before it goes bankrupt, that payment shrinks what you personally owe. But that benefit to you is a preference, as far as the law is concerned.
The company kept paying down your joint debt while other bills went unpaid, which gave you a break while leaving the rest of them in the lurch. The trustee may sue you to recover that benefit, and set things right among all the creditors.
Filing Chapter 7 may just invite the suit, depending on your business’s facts.
The more money the corporation paid to officers, the greater risk that the trustee challenges those payments, maybe in court.
A challenge can mean a lawsuit, or it can just mean a long, hard look at what the company did that made your life easier while the creditors went unpaid.
In the real world, the money often runs the other way. Owners often put in money, or give up money. Sometimes they miss a paycheck.
The trustee will be looking for corporate money that went somewhere else, for which the company got too little or nothing back. The problem is a ”fraudulent transfer” because something left the corporation for less than its actual worth. And that can trigger the trustee to look back years, not months, to find it.
If your company kept sloppy records, the trustee is going to make you find statements and figure out where every check went.
Even if everything turns out fine in the end, the process of getting there may be unnerving.
What Bankruptcy Does for a Failed Business
Closing a failed company is never simple. Still, for all the risks above, what bankruptcy does for a failed business can matter every bit as much.
The trustee carries most of the load of closing the business. Business creditors eventually accept that the bankruptcy estate has nothing left to pay them. And what property there is gets divided among creditors in an orderly way everyone can see coming.
Before you file, honestly think through those five problems yourself. Then take your answers to a good business bankruptcy lawyer and let them double-check your thinking.
About Delancey Street
Delancey Street is a premier, and award winning, business debt settlement company that helps business owners nationwide. Our goal is simple: help you escape debt in a safe and legal manner. Based out of New York, we can help in 49 of 50 states. We tell you how it is; because your business and future is on the line.
