How Does Business Bankruptcy Work?

There are three main types of business bankruptcies and they have wildly different effects on the owner and the business. Whether you’re looking at Chapter 7, 11, or 13, you’ll want to consult a professional bankruptcy attorney to learn more about which option is best for you.

Given all of the economic turmoil of 2020, businesses across the country have had to rethink and innovate or consider closing up shop altogether. If your business falls into the latter category, you might be thinking about bankruptcy as a way to resolve outstanding debts and clear your slate. Before doing so, it’s worth understanding the basics of the three main types of business bankruptcy: Chapter 7, 11, and 13 and how they can affect you, your employees, and your future.

How Does Chapter 7 Bankruptcy Work?

If your business cannot sustain a regular income, your debts are mounting, and you foresee closing down entirely as the best option, it may be worth exploring Chapter 7. In this proceeding, you may be subject to the “means test,” which will determine if you meet the income requirements to qualify for Chapter 7 if you are operating your business as a sole proprietorship. If the business is incorporated, a partnership, an LLC, or any other type of non-individual, the means test is inapplicable. This bankruptcy proceeding is often referred to as “liquidation” because a court-appointed trustee takes possession of the business’ assets and sells them to pay as many creditors as possible (liquidating the assets). After all of the assets are sold and creditors paid, you, as the business owner, would receive a discharge from any remaining debts. An important consideration when filing a business, Chapter 7, is that only individuals are eligible for Chapter 7 discharges.

How Does Chapter 11 Bankruptcy Work?

If you’re interested in salvaging your business and turning things around, you could opt for Chapter 11. This option allows non-individuals (corporations, partnerships, LLCs, etc.) the opportunity to reorganize. Individuals who operate as sole proprietorships may file for Chapter 11 if they have too much debt to qualify for a Chapter 13. The business must file a detailed reorganization plan (how it will deal with creditors), and the proceeding allows the business to terminate or modify contracts and other actions to get back to profitability. This process can take more than a year to complete and requires your creditors’ to agree to the plan of reorganization if they are disadvantaged from their original position. An important consideration when filing a Chapter 11 is that although you will almost certainly continue operating the business yourself, you must do so for the benefit of your creditors and with the goal of paying them, rather than making a profit for yourself.

How Does Chapter 13 Bankruptcy Work?

This option is only available to individuals who want to reorganize their sole proprietorship, as only individuals may file for Chapter 13 bankruptcy protection. You’ll file a repayment plan with the court detailing how you’ll repay your debts. Oftentimes, this option works better for sole proprietors whose personal and business assets are mixed as Chapter 13 allows you to keep things like your house where Chapter 7 may not. Your total repayment amount will vary widely based on how much you make and how much you owe. When determining what the plan payment will be, the primary consideration is the amount of secured and priority debt that must be paid. This sets a floor for the plan payment amount. If your household income is enough to make this payment after paying all of your regular household bills, and you still have a surplus, that surplus must be paid into the plan as well so that your unsecured creditors receive at least partial payments.

A qualified bankruptcy attorney can help you make the right decision for your business and Natural State Law is here to help. Call us today at (501) 916-2878 to learn more about how we’ve helped Arkansas residents clear their slates and start over.