Several times a week I receive a call from a business owner to discuss the closing of their business and how to deal with the often large debt owed by the company and usually personally guaranteed by the business owner. When it comes to closing a business, bankruptcy is one option that can allow a business owner to stop bleeding money and get a fresh start.
It’s a simple fact of entrepreneurship: Small businesses fail all the time and for many different reasons, some of which are outside of the owner’s control. If you’re falling deeper and deeper into debt by keeping your company open, sometimes the best business decision you can make is to shut down the business and cut your losses. (20% of small businesses fail in their first year, 30% of small business fail in their second year, and 50% of small businesses fail after five years in business. Finally, 70% of small business owners fail in their 10th year in business).
Who can file Chapter 7 bankruptcy?
Chapter 7 is a liquidation bankruptcy, which means all of your non-exempt assets will be sold off by a court-appointed trustee to repay your creditors. Both individuals and companies such as partnerships, limited liability companies (LLCs), and corporations can file for Chapter 7 bankruptcy. Business owners can file also Chapter 7 for themselves personally or their business. A sole proprietor is personally liable for business debts so they can wipe out all debt with a personal filing. One thing to note however is that although business entities can file a Chapter 7 bankruptcy, they cannot receive a discharge like an individual debtor.
Small Business Chapter 7 Bankruptcy Cases Are Often Not Necessary
When many people start a business—particularly first-time small-business owners—they are required to personally guarantee any leases, personal loans, credit cards, or equipment loans. This means that when the business fails, they will need to look at filing a personal bankruptcy in order to wipe out that debt they guaranteed. Most of the small business owners I meet with have little or no inventory and simply need to just shut down their business, file a personal chapter 7, and move on with their life. Although creditors could still pursue the company, there is nothing they can do once the owner files personally bankruptcy. Most creditors will stop the pursuit of the closed company once they receive notice that the owner filed for bankruptcy protection. The old saying, “You can’t get blood from a turnip” often applies in these cases.
Reasons a Business Would File a Chapter 7 Corporate Bankruptcy
As a sole proprietor, Chapter 7 lets you wipe out both personal and business debt in a single filing. And even though your personal assets will be included in the bankruptcy estate, you can use exemptions to protect some—and maybe even all—of your property. Most of my business clients who file for Chapter 7 protection are able to keep their personal assets such as their homes and cars. When you meet with a bankruptcy attorney make sure that they review what bankruptcy exemptions will be available to you if you file. These exemptions vary from state to state.
If a company cannot receive a discharge of its debts then why file? Why pay the filing fee and attorney fees and at the end of the day still have no discharge order? The main reason we see many clients request the Chapter 7 business bankruptcy is because they want an easy way to wind down the company and wrap everything up in a neat “package”. Chapter 7 bankruptcy provides an orderly and transparent method for business entities to wind down their operations, sell off their assets, pay back creditors, and shut the entity down.
Although all these tasks can also be done outside of bankruptcy, doing so through Chapter 7 appoints a Chapter 7 Trustee to handle the estate. Creditors may prefer to see that, because it means there is less chance that the business owner is cheating by hiding company assets instead of selling them to pay back business debts. Peace of mind is key to many business clients because they need to be able to put this behind them and go on to the next venture.
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