Chapter 7 Business Bankruptcy

Most Businesses are Like Suitcases…

Suitcase of CatsWhat? Most business owners have a corporation or a limited liability company. This company is like a suitcase that the owner can take where she wants, open, and handle the contents of. She can take some of the assets out of company, and sell them, just like she can take a pair of shoes out of the suitcase and sell those (or I could take Sebastian the Feline Paralegal and the Intern out of this suitcase and sell them – but I never actually would!). If the company files chapter 7 bankruptcy (the simplest kind) then legal ownership of the firm – and the ability to open the “suitcase” – passes from the owner to a Bankruptcy Trustee. The Trustee is appointed by the Bankruptcy Court to administer debts, typically by selling firm assets to pay firm creditors. But, unlike in a personal chapter 7, there is no discharge of debts in a corporate chapter 7. Thus, when the Trustee gets a company to administer, the first decision is whether to sell it whole – the whole suitcase with all its contents. But this almost never happens. Why? The business is failing, or its revenue-generating ability hinges critically on the owner’s involvement. The only option the Trustee generally has is to sell any company assets it can and use the proceeds to satisfy the firms’ liabilities on a pro rata basis. The Trustee then returns the company to the owner, emptied of all valuable assets but still full of the liabilities that weren’t paid. Sounds useless, right? It usually is.

Many Small Business Bankruptcies Can Be Do-It-Yourself

Almost any business owner can sell firm assets to satisfy debts. Hiring me to take a failing firm through chapter 7 bankruptcy costs much more than hiring me to manage the sale of company assets, payment of creditors and dissolution. Occasionally, a client is a sole proprietor, or has personally guaranteed firm liabilities. In these situations, I almost always recommend filing personal bankruptcy because all liabilities will be discharged and the person gets to start over. The caveat in these cases is that, if you bring a company you own into a personal bankruptcy, the Trustee gets to decide what to do with it. Will the Trustee sell the on-going business – the “suitcase”? Yes, if there’s a buyer, but there usually is not. Will the Trustee open the “suitcase” and sell firm assets? Not if there are more liabilities than assets because the former would need to be paid before taking a dividend. Most often, the corporation is abandoned back to the owner. If you want get into details, visit the U.S. Bankruptcy Court website.

So Why Ever File a Business Chapter 7?

When creditors accuse the owner of fraud, giving the assets of the firm to a bankruptcy Trustee demonstrates transparency, and decreases the odds of successful claims that the business owner should be liable for the corporation’s debts.

Chapter 11 Small Business Bankruptcy, under New Subchapter V Rules

It also makes sense to file a chapter 11 bankruptcy for a corporation if doing so gets the main creditor(s) to treat the firm better. Indeed, changes to bankruptcy law governing small businesses (those with debts less than $7.5 million through 2020 and less than $2.5 million thereafter) that went into effect in February 2020 have turned Chapter 11 bankruptcy from a little-used option for small business owners to a very highly feasible alternative. Read about the changes here. And a much better bankruptcy option than chapter 7. If you own a business that is struggling to manage its debt, give me a call. Once you lay out the specifics of your situation, I can lay out your options for getting some relief from creditors and thus buying some time to ride out the circumstances creating your problems.
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