Businesses Can File for Bankruptcy In One of Three Ways
Small businesses are most likely to fail, The decision is made by the owners whether or not to file bankruptcy. Only about one-fifth, or one-fifth, of new small businesses survived for more than one year between 2005 and 2017. Half of the companies lasted five years or longer, and only one-third lasted at most ten years.
Bankruptcy can be a legal proceeding that a company must go through in federal court. This legal process will either help you pay off your debts or get rid of them. This is done under the supervision and protection of the bankruptcy court. In addition, the type of bankruptcy can lead to liquidations or restructurings for business bankruptcies.
It could be eligible for one of the three types depending on its form. Sole proprietorships can be legal extensions of the owner. All assets and liabilities are the responsibility of the owner. A sole proprietorship is more likely to file Chapter 13 bankruptcy, which is a restructuring bankruptcy.
Corporations and partnerships can be legal entities that are independent from their commercial owners. Therefore, they are eligible for Chapter 7 or Chapter 11 bankruptcy protection. Because of their location in the United States Bankruptcy Code, three types of bankruptcies can be called “chapters”.
Chapter 13: Debt adjustment in the case of people who have regular income
Individuals are usually able to file Chapter 13 bankruptcy. This is a bankruptcy for reconstruction. Because they are the same as their owners, it can be used for sole proprietorships.
If a small business wants to restructure instead of going bankrupt, Chapter 13 is an option. However, you must present to the bankruptcy court a repayment plan detailing how you will repay obligations. Chapter 13 bankruptcy is quite different to Chapter 7.
How much you have to repay will depend on your income, your debt, and the value of your property. If your personal assets and company assets are linked (e.g. if you are sole proprietorship), filing Chapter 13 may be a better choice than Chapter 7. This could save you from losing your home.
Liquidation (Chapter 7)
Chapter 7 bankruptcy can be a viable option for companies whose future is uncertain. Liquidation is the most popular term. However, if a company is insolvent or has too many debts, Chapter 7 may be used. Chapter 7 bankruptcy can be filed by all types of corporations, sole proprietorships, and partnerships.
If the company has no significant assets, Chapter 7 may be used. It is not recommended to restructure a sole proprietorship. This is because it is an extension of the owner’s talents.
Chapter 7 bankruptcy is the best choice. A “means test” must be passed before a Chapter 7 bankruptcy is granted. The application will be rejected if the applicant’s salary exceeds a specified threshold. The company will be dissolution if a Chapter 7 bankruptcy petition is granted.
The bankruptcy court appoints a trustee to seize company assets and divide them among creditors in Chapter 7. After the assets have been divided, the trustee gets paid, and one owner receives a “discharge”. A discharge is when the company owner does not have to pay its debts anymore. A discharge is not granted to corporations and partnerships.
Chapter 11: Business Reorganization
Companies with real potential to turn things around can consider Chapter 11. For example, partnerships and companies often file chapter 11 bankruptcy. It can also be used for sole proprietorships with too much income to qualify for Chapter 13 bankruptcy.
A Chapter 11 plan allows corporations to reorganize and then continue to operate under the supervision of a court-appointed trustee. But, first, the company submits a detailed restructuring plan that details how it will deal with its creditors.
The company can cancel leases, terminate contracts, recover assets, and repay some of its obligations. However, it can also release others. This is to help the business return to profitability. First, the creditors will vote on the proposal. Then, the court will approve the plan if it is fair and reasonable.
Reorganization plans enable creditors to spread their payments over a longer period. Chapter 11 bankruptcy can be a complicated process. Not all cases are successful. Confirming a strategy may take more than a year.
The 2019 Small Business Reorganization Act
The US Congress approved the Small Business Reorganization Act of 2019 in August 2019. President Trump signed it. It also included a new Chapter 11 subsection VI. The law will take effect on February 20, 2020. This Chapter 11 section seems to be in favor of the company bankruptcy applicant. However, this is only applicable if the applicant wants it to.
Subchapter V doesn’t require creditors to approve a court plan or to be appointed by creditors.
Before deciding on whether to file for bankruptcy, sole proprietorships or incorporated businesses should consult qualified business bankruptcy counsel. There may be other options.