With the recent news regarding Bed Bath & Beyond filing for bankruptcy, and more recently Christmas Tree Shops, many may ask what it means for a business to file for bankruptcy liquidation. Further, why the circumstances of this new liquidation are different from previous bankruptcy filings for businesses like Bed, Bath & Beyond. If your business is overwhelmed with debt, you may be considering bankruptcy. While it is not an easy choice, it is important for a person who owns a business to know their options.
Chapter 7 Bankruptcy
A Chapter 7 bankruptcy, also known as a “liquidation bankruptcy” is exactly what it sounds like. The overarching goal here is to liquidate any assets entirely and close the business. A trustee is appointed to manage the liquidation process. Once this process is complete, the business’s debts are discharged. The business, however, must close for good.
The individual process under Chapter 7 and the process for a business are not entirely different. An owner of the business will still need to attend the 341 meeting of creditors, disclose any and all relevant information to the trustee, and these cases tend to be much more straightforward than the other chapters.
The process for a Chapter 7 business bankruptcy tends to differentiate from an individual bankruptcy. In a business bankruptcy case, the trustee will take control of the entire company, and sell any and all assets it has. This includes inventory, equipment, even accounts receivable that have yet to be collected. Anything worth money, the trustee will dispose of. Any money received for those goods will be disbursed to creditors. In the unlikely scenario the creditors are paid in full, and there is still any amount of money left, the trustee will give the final disbursements to the principal of the business. However, this is very unlikely, as a business filing for Chapter 7 generally has more in debt than assets.
Another major difference between an individual and business bankruptcy is there is no requirement for a business to pass the means test an individual is required to pass. There is no evaluation as to monthly expenses or exemptions. Any property, both tangible and intangible, is sold with the proceeds distributed. There can be money left over for distribution to the principal of the business, but only once all claims and costs are paid in full. The Bankruptcy Code does not limit the businesses that can file Chapter 7, as the business is forced to close its doors for good at the conclusion of the bankruptcy.
One critical issue to keep in mind is a business Chapter 7 will not eliminate the partners’ personal and individual responsibility to pay the bills of the business. The Chapter 7 trustee may look to the partners’ personal assets for payment, so it is not often that a partnership opts to file for Chapter 7. bankruptcy for a corporation does hold some risk for its shareholders. Once the corporation files for bankruptcy in federal court, the door opens for creditors to initiate alter ego litigation. This would hold the shareholders and principals liable for the debts of the business.
Chapter 11 Bankruptcy
A Chapter 11 bankruptcy calls for the reorganization of a business. This allows the debtor to continue operations while it determines the best course of action to repay its creditors. Akin to a Chapter 13 individual bankruptcy, this chapter calls for a plan of reorganization where the debtor repays debts over the course of five years. The primary difference between Chapter 11 and Chapter 7 is repayment. Debts in a Chapter 11 case are repaid over the course of five years through a company’s disposable income. In Chapter 7 on the other hand, the debts are wiped away once the bankruptcy case is closed after the distribution of assets.
There is no liquidation in a Chapter 11 bankruptcy case. Instead, the company must create a “liquidation analysis” which outlines the amount creditors would receive if the debtor filed for Chapter 7 instead. The debtor must show that, under the plan of reorganization, the creditors will receive a higher percentage of their debt than if all assets were sold.
Small Business Debtors
In February 2020, Congress passed the Small Business Reorganization Act (SBRA). The SBRA was codified at 11 U.S.C. §§1181-1195 (also known as Subchapter V). The SBRA is a voluntary option for small businesses, as defined by 11 U.S.C. § 101(51C). To qualify as a small business debtor, the business must be engaged in commercial or business activities with a total non-contingent debt of under $2,566,050. Secondly, either the US Trustee has not appointed creditors’ committee, or the court has determined the creditor’s committee is insufficiently active and representative to provide sufficient oversight.
There are some substantial differences between a Subchapter V case and a regular Chapter 11. To begin with, a small business will have a trustee appointed to their case for the purpose of ensuring the reorganization stays on track. Additionally, unlike a regular Chapter 11, a Subchapter V does not require a disclosure statement.
Individual Bankruptcy for Business Owners
What happens if you own a business, but want to file for personal bankruptcy? Generally, if an individual is going to file for bankruptcy, they file under either Chapter 7 or Chapter 13. As discussed, in a Chapter 7 bankruptcy a trustee is appointed to liquidate any assets belonging to the debtor. If the debtor owns their own business, the business is considered an asset. This is often beneficial for a business owner to file after the business closes, as it will erase personal debts and personal guarantees. If the debtor files while the business is still in operation, the debtor puts the business at risk for liquidation as an asset of the debtor.
An individual chapter 13 case, on the other hand, will pay out personal debts and personal guarantees, but will discharge them at the end of the plan. The largest hurdle for a business owner/debtor tends is often that the business will not be protected or exempted. This means the debtor’s monthly plan payments are likely to increase due to the extra assets represented by the business.
