We’re Delancey Street, a business debt settlement company (we’re not a law firm) that negotiates with merchant cash advance funders and other lenders. A lot of the business owners we talk to bring up bankruptcy. But bankruptcy isn’t just for individuals, it’s also available to businesses. It can help a company stay open and eventually thrive, or close it down transparently. Business bankruptcy tends to be more complicated than a consumer case. It’s easy for misunderstandings about the details to lead to an unexpected and costly result. Sometimes hiring an attorney is a requirement. A good business bankruptcy lawyer in Indianapolis can tell you what kind of bankruptcy your business is eligible for, and whether it’s the best option for you. Many offer a first consultation free, so go in with good questions. Here are eight worth asking.
Business or Personal Bankruptcy
The first thing to decide is whether it’s a business or personal bankruptcy. That’s usually pretty clear: people file consumer bankruptcies and companies file business bankruptcies. But if you’re self-employed, it might not be obvious which is appropriate. The rule is that if most of your debts are consumer debts, you file a personal bankruptcy. “Consumer debts” are debts for things you buy for personal, family, or household use: groceries, clothes, rent, a gym membership, a vacation. If you have more business debt than consumer debt, you file a business case. If you don’t know whether you have more consumer or business debts, call a local bankruptcy lawyer, who can tell you how your court makes that distinction. Some courts make the determination based on the dollar amounts of the debts, others on the number of debts.
Second, ask how your entity type changes things. The lawyer will want to know whether you’re operating as a sole proprietorship, partnership, limited liability company (LLC) or corporation. He or she will also want to know whether you’re looking to wind up your business or want to restructure the debt so you can keep it operating. Only after that will the lawyer outline your options.
Liquidate or Reorganize
The third question is whether the business should liquidate or reorganize. If the company is going out of business, a liquidation filing makes the most sense, which is usually Chapter 7. If the business can survive after it restructures its payments, it may be better to seek reorganization. Unwinding a failed company should be done in a way that demonstrates transparency, so it is less likely a creditor will claim the business owner tried to move assets out of the company before the company closed, which could result in expensive litigation. In a Chapter 7 filing, a trustee appointed by the court handles the orderly sale of company assets and distributing proceeds to creditors, relieving much of the burden of closure from the business owner. In a reorganization, a company can restructure its debts with its creditors and develop a payment plan.
Fourth is, which chapter is right for my business? If you file chapter 7, the trustee takes the business assets and sells them to pay your creditors. Any business can file chapter 7, but a sole proprietorship is the only kind that gets its qualifying debt wiped out. If your business is a sole proprietorship or a partnership, the owner’s or partners’ personal assets can be used to pay business debt. In chapter 13, the business can’t file, unless it is a sole proprietorship, but an individual owner who files may be able to reduce monthly debt payments enough to keep the business running. Chapter 13 has debt limits, and above them you must use chapter 11.
Chapter 11 is the choice for many companies that want to stay in business. First the company has to file a detailed list of its income, assets and debts, and then draft a reorganization plan so it can keep the assets that are important to its business and pay its creditors out of monthly profit. All types of entities can file Chapter 11, and there are no debt limits. But larger established businesses use it most effectively, and it’s often too expensive for a small business with limited income. Subchapter V is a relatively new provision, sort of a cross between Chapters 13 and 11, and lets smaller businesses continue operating with a cheaper process. Chapter 12 is like Chapter 13 but only available to family farmers and fishermen.
Are My Personal Assets at Risk
The fifth question, “Are my personal assets at risk?” depends on the business form. If you’re a sole proprietor, you’re on the hook for all the business debt, so you’ll include both your personal and business finances in the case (although exemptions shield a certain amount of property). If you’re a partner, you’re also liable for business debts, so filing Chapter 7 exposes each partner’s personal property, which is why partnerships rarely file Chapter 7. For an LLC or corporation, owners’ personal assets generally aren’t at risk, although if an owner misused business assets for personal purposes, for example, a harmed party might bring an alter ego action to “pierce the corporate veil.” Once a party is in bankruptcy that’s relatively easy to bring, so think twice. All lawsuits are expensive.
Next up, tell your lawyer which debts are business debts, a category that’s defined by purpose — the debt was incurred for business, not personal, family or household reasons. A business loan, the lease on your office, personal and business taxes, and a delivery van for your cookie business are all business debts. A home equity loan used to fund your diner is also a business debt, even though the house is the security. A single credit card that buys ingredients one week and your morning coffee the next contains both business and personal charges. Different courts have different rules.
Seventh, ask whether an earlier bankruptcy limits you. You can only get a discharge in Chapter 7 or 13 if you’re an individual or a sole proprietor, so if you’ve gotten a discharge before you may have to wait a while. If your earlier bankruptcy was under Chapter 7 or 11, wait eight years before another Chapter 7 discharge. If it was Chapter 12 or 13, you may only have to wait six years for a Chapter 7 (unless that plan paid 100% of the unsecured claims, or 70% in a good faith plan). If your earlier bankruptcy was Chapter 7, 11 or 12, wait four years for a Chapter 13. If it was Chapter 13, you may have to wait just two years for another one. Keep in mind that it is the discharge that’s limited, not the filing itself. But be sure to tell your lawyer if you or the business violated a court order or had another case dismissed in the 180 days before filing, because that could make you ineligible.
Question eight: can a creditor put my business into bankruptcy? Yes, under Chapter 7 or Chapter 11 - not in Chapter 12 or Chapter 13. A creditor might do this when the business has valuable assets and it is worried about getting paid. Filing against you imposes an automatic stay, which shuts down any collection effort, and it gives a trustee the authority to reverse any pre-bankruptcy transactions designed to dodge paying creditors. In practice, though, involuntary cases are rare because the legal hurdles are high. If you have fewer than 12 creditors, a single creditor can file if its claim is large enough; the debt has to be undisputed and unsecured. If you have more than 12, you need three creditor signers. Most creditors don’t want to share. If the business challenges the filing, the litigation can get expensive, and creditors who file in bad faith can be forced to cover the business’s legal fees.
A last word from us at Delancey Street. Bankruptcy is one road out, but it isn’t the only one. We aren’t lawyers, and when we talk to business owners we’ll steer them towards legal help if they are thinking about bankruptcy. Our advisors negotiate with merchant cash advance funders and lenders for less than the full balance owed. If a case can’t be won, or a cheaper option exists, we say so on the first call, and when bankruptcy counsel (Subchapter V, for example) is the better path, we refer you to a vetted independent attorney. That first consultation is free and confidential.
