If you are closing a business that still owes money, your first reaction might be that the debt will just evaporate but the truth of the matter is that it won’t. Banks and other creditors do not offer free money. When you have a company that is dead or dying, creditors are still owed money and, in most cases, will take their best shot to collect as much as they can.
How and When You Give Notice
Failing bankruptcy, the owner of the business must oversee its wind-down process rather than turn it over to a court or a trustee. Giving advance notice to people that the business is closing is one of the more important aspects of the process, and requires developing a plan about how and when you give notice and who you tell first. Without a good plan you may lose assets the business needs to go through the wind-down, and some of this risk may fall on the business owner personally rather than on the business itself.
If you have employees then you should consider at least telling them (preferably at the earliest time possible) about what you are doing. You can even try breaking the news to them in stages, such as first breaking it to the most senior employees. Most states require that you give employees their final paycheck within a certain amount of time after closure. You should continue to pay wages for employees until you actually close down and keep benefits (including health insurance) in place until then. If you pay them, your reputation with employees will stay intact in case you want to start another business some day.
If you have accounts with banks or lenders, one of the first things they will do once they find out that you are closing the business is to close your accounts and terminate any lines of credit that you have. If you owe them money, they may offset the debt against the money you have on deposit with them. In some cases, the fact that you have notified them of your intent to close may be treated as a technical default on your loan documents and they may sue to recover the outstanding balance, including interest, fees and costs. Before notifying lenders about your plans, be sure to understand their rights over your accounts. If you have signed personal guarantees on any bank account, loan or line of credit, you can be sued in court personally in addition to the business. You must read the documents you signed to determine exactly which debts you might be personally liable for.
If you have months or years left on your property lease or storage unit, you may be on the hook to pay the rent for all of it. The landlord may have a legal duty to try to mitigate their damages by attempting to re-rent your space. The best case scenario here is if the landlord releases you from your obligations and you may offer to allow it to keep your security deposit as a partial payment of rent. If this isn’t possible, then there may be a landlord-tenant lawsuit, and the landlord may try to lien all your property that is still in the building. And if you personally guaranteed the lease then you can be sued for the rent too.
In many cases, vendors and service providers should be at the top of your priority list for notifying people that you are closing your business. You need to tell them that you will no longer require their goods or services so you do not have to run up more debt with them, but it is also just fair to them to let them plan on their end. You should also try to decide how you will return the goods that you no longer require. In most cases, vendors will want to know the status of the invoices they have sent out, including when they will (or won’t) get paid. Some vendors will react immediately: they may attempt to retake their goods, close your credit line, and require you to pay cash on delivery (COD) for future orders.
Next, you want to collect any money that your customers owe to the business so that the money can be used to fund the winddown. If you have any customers that are in the middle of a project or have deposits or prepaid orders, you should plan on making them whole using receivables or to arrange for another business to take over those accounts. It may be expensive for the business to finish up these orders, but your customers can still sue you if you simply close up shop without making arrangements for them.
If you have collected sales tax on the products you sold, you have held that money in trust for the taxing authority. If you fail to remit it, you face serious penalties for both the business and possibly for you personally. Consult a tax attorney or accountant to ensure the sales tax is current, and if you have any personal liability, work with a professional to try to resolve the matter. If you have employees, you probably owe payroll taxes on wages that you pay out, and both federal and state taxing authorities may hold you personally liable for those taxes as well. The business is responsible for filing a final state and federal tax return for the period ending on the date you closed.
Unsecured debts are the normal ones that you are trying to pay off when you close a business: internet and phone bills, credit cards and overdraft fees. If you don’t have enough cash to pay all of them then you should contact each creditor and see if you can resolve each account. Be sure to find out which accounts you are personally liable for and prioritize them in such a way as to leave as little debt as possible following you from your old business.
A secured debt is a debt that has specific collateral to back it up, like an auto loan for instance. The business may have to return the collateral to the secured creditor, or the secured creditor may repossess the collateral, auction it off, and then pursue the business for the difference between what it sells for and what is still owed on the debt. Also, if the business is selling its assets and inventory, be sure to check into the “bulk sales law” of the relevant jurisdiction, which may require a notice of sale to creditors of the business.
Unless your business is a sole proprietorship or partnership, it is probably an LLC or corporation, in which case you will need to formally dissolve your entity in order to really finish up your wind-down process. This typically means filing the appropriate documents with the state where the business was formed, disclosing its debts and assets, and making sure that all owners agree to dissolve. Some states will want you to show that you have no outstanding taxes or certain other debts. Be sure to follow the procedure laid out in any relevant governing documents (e.g., articles of incorporation) so that your wind-down is properly authorized by the corporation, and file the necessary paperwork for any state licenses or permits and trade names.
If the process of winding down on your own sounds complicated, many business owners choose to complete an assignment for the benefit of creditors (ABC) instead. With an ABC the business and its assets are assigned to an individual known as the assignee. The assignee then winds down the business in a state court-supervised process. It often requires help from accountants, auctioneers and attorneys. The assignee earns a commission on the assets they recover and liquidate. Even if the business does not have any assets, most assignees will agree to take on the wind-down.
So what happens to business debt without bankruptcy? It doesn’t just disappear. It must be resolved on a creditor by creditor basis by paying it, negotiating, returning property, or being sued. If you have debts you personally guaranteed or are otherwise personally liable for, these may follow you after the closure of your business. It is a complex process, so you should plan your steps carefully and get assistance.
