Should I let the Chapter 7 trustee sell business assets to pay priority debts?

When you close your business and file bankruptcy, you don’t have to get rid of your old property yourself.

Owners of failing businesses often struggle to decide when to shut it down. They rarely see bankruptcy as a means to help end a bad situation and free them to do something else. They struggle with admitting defeat, and they have worked hard to buy their business assets. Handing those over to a trustee to sell them on the auction block feels wasteful.

Filing Chapter 7 bankruptcy while you still own property can be a wise option in certain circumstances. In the right situation it can even be a relief.

Keeping Assets When You File Bankruptcy

Normally, the goal when you file Chapter 7 bankruptcy is to keep the property you have. The bankruptcy trustee for Chapter 7 (liquidation bankruptcy) will seek to sell nonexempt assets to give money to your creditors. But not everything you own is nonexempt. The law gives you exemptions: protections that keep certain kinds of assets out of the trustee’s hands. For example, tools of the trade (tools and equipment used to run your business) are often exempt. If everything you own is covered, your trustee gets no property to sell and distribute to creditors. That is called a ”no-asset case.”

But sometimes, when you are running a failing business, a “no-asset case” isn’t what you want at all. Two conditions can combine to make handing assets over the right decision.

First, some assets just aren’t useful anymore after you close. They may have some market value, but it would require a lot of energy to sell them, and to split up the money.

Second, the debts you most want paid are just the ones the bankruptcy trustee is required to pay first.

Decide whether you need the business assets right after you file. If there is an item you need after you close your business, talk to a bankruptcy lawyer about ways to keep it. Keeping assets when you file bankruptcy depends on several things. One is whether your business is a sole proprietorship or a corporation. Another is whether the assets are collateral for a business loan, and someone else has a legal interest in them. And whether the bankruptcy trustee has to sell them depends on their value and whether the exemptions allow you to keep them. The law of business bankruptcy and exemptions is too complex for self help. Get good legal advice.

But once you decide you no longer need a business asset, giving it up takes the burden off you. You can put your time into building a new life that doesn’t include the failing business.

Rule of Debt Priority

Putting the assets in the hands of the bankruptcy trustee is even better when you actually do want the people who get the proceeds to get paid.

The trustee must follow a set order of priority when paying creditors with the proceeds from sale. That rule of debt priority can work in your favor.

Priority debts get paid in full before any general unsecured debts get a cent. Section 507 of the Bankruptcy Code spells out that order. You’ll be happy with the bankruptcy trustee selling the business assets if the proceeds pay these debts:

• Overdue child support and spousal support (arrearages).
• Wages, salaries, commissions, or employee benefits earned by employees within 180 days before the date of the filing of the bankruptcy petition or the date of the cessation of the debtor’s business, up to $10,000.
• Contributions due but unpaid to employee benefit plans. These also have limits.
• Income taxes, but only under certain conditions, plus certain property, withholding, employment and excise taxes.

Simple Example

To keep it simple, say you have $5,000 of nonexempt equipment. You owe the IRS $3,000 in income taxes. And you owe the former employees $2,000 in back wages. You also have child support you have been ordered to pay of $1,000, all overdue. The trustee is required to pay arrearages first, then employee wages, and finally taxes. The trustee sells the business assets for $5,000, pays the first $1,000 of that to child support arrearages, pays $2,000 of it to the employee wages owed, and then pays $2,000 of it toward the back taxes. The IRS may still come after you for the rest, but you will have at least paid some of it. This is a very simple example. In practice, not all $5,000 comes to creditors, and you do not choose where the money goes. The bankruptcy trustee takes a percentage, and does not just let you set the price. Still, you don’t have to deal with selling the assets. This relief is hard to put a price on.