In a recent discussion on our blog about what can happen when one member of a multi-member limited liability company (LLC) files for bankruptcy, we noted the continued growth in the popularity of LLCs over the past several decades. This growth has not been limited to multi-owner businesses. Most state LLC laws recognize single member LLCs, and many sole proprietors have embraced them.
However, “traditional” sole proprietorships continue to represent a significant and growing segment of American businesses. According to Internal Revenue Service statistics, the number of tax returns filed by non-farm sole proprietorships grew by more than ten percent between 2010 and 2015.
So what happens to a sole proprietorship business when the owner files for bankruptcy? The answer depends upon the owner’s desired outcome and financial situation.
While it may make little practical difference in a business’ day-to-day operations, if it is run as a corporation or LLC – even if it has only a single shareholder or member – there are nevertheless two separate parties – the owner and the legal entity (the LLC or corporation). In a sole proprietorship, there is no separate legal entity, and the debts of the business are treated as the debts of the owner. While an LLC or corporation can insulate owners from personal liability, most lenders will require a personal guarantee for loans made to the business entity.
If a business owner wants protection from the business’ creditors, in most cases she will have to file a personal bankruptcy petition. Provided her income is below a certain level she (or her business debts comprise the majority of her overall debts) may elect to file a Chapter 7 bankruptcy. In this case, except for property that is exempt (protected) under Colorado law, all personal and business assets will be available for sale or repossession to satisfy the owner’s business and personal debts. This may well be the preferable option for a business owner whose business seems unlikely to recover from a financial setback and who has decided to close up shop.
If a business owner wants to terminate the business (and her income is within the Chapter 7 income limits or her business debts comprise the majority of her overall debts), Chapter 7 is probably her best option. If the owner wants the business to continue operating, and the business has insignificant assets or value, the business owner will likely be able to keep operating her business.
But what about a struggling – but optimistic – business owner whose financial situation is truly temporary and likely to improve, provided he or she can keep the business operating? Does the Bankruptcy Code offer a way to accomplish this worthwhile goal?
If the business has significant assets or value, then Chapter 13 may be the better option for the business owner:
- Whose business is experiencing cash flow problems but still has significant value, including goodwill, inventory, equipment or other tangible or intangible assets;
- Who has enough income to provide for basic living expenses and also make the court-required payments on your debts; and
- Who has total unsecured and secured debts (remember, this means both business and personal) no greater than limits set by the Bankruptcy Code.
Note also that a business owner who has filed a Chapter 7 bankruptcy within the prior eight years must file under Chapter 13.
A business owner’s Chapter 13 case will generally proceed the same way as a strictly personal filing. The debtor must ordinarily keep paying residential and business rent or mortgage payments and payments secured by other collateral, such as a vehicle, though property that has value and is not needed for either personal or business purposes may have to be surrendered
If you are a business owner in Colorado who is in financial trouble but wants to explore the possibility of keeping your business going, don’t wait – give Colorado Bankruptcy Law Group, LLC a call at 303.331.3403 or click here to schedule a free, no obligation consultation with one of our experienced and knowledgeable bankruptcy attorneys.