How a Bankruptcy can offer a Small Business Owner a Fresh Start

A small business is one that is independently owned and operated with relatively low sales volumes and few (if any) employees. The legal definition of "small" often varies by industry, but is generally a company with fewer than 100 employees. Small businesses are normally privately owned corporations, partnerships or sole proprietorships. With the economic times being what they are, many businesses are finding that they are having problems meeting their expenses. If a business is finding out that it is losing more money than it is making, then is might be time to consider getting some business debt relief through bankruptcy.

Bankruptcy Chapters Under Which Businesses Can File
If a small business is forced to file for bankruptcy, the owner has several options available. Like individuals, a corporation can file Chapter 7 bankruptcy. But, if it wants to continue operations while going through the bankruptcy process and reorganize the debts, the business can also file for Chapter 11 bankruptcy.

Sole proprietors can file for Chapter 7 and Chapter 13 or continue operations and reorganize under Chapter 11. But, unless the sole proprietor has a lot of assets to protect and an extraordinary amount of debt, they're best to stay away from the highly complicated and expensive Chapter 11 BK. If the business requires little capital, has few assets or is really just an extension of the owner's skills and personality are ones that it may not pay to reorganize. In this case, the owner may be better off liquidating the business under Chapter 7 and starting over in a fresh entity.

Chapter 11 is generally too expensive and complicated an option for small businesses. It requires significant time on the part of the owners and managers to comply with the requirements of the bankruptcy system, interface with counsel, and negotiate with creditors. In exchange for the protection of the automatic stay and other bankruptcy protections under Chapter 11, the debtor is required to provide full disclosure of its financial condition to creditors and the court, both at the beginning of the case and on a monthly basis thereafter. The debtor in possession also must operate as a fiduciary for its creditors while the bankruptcy proceeding is in progress. This means that the person assigned as the debtor in possession must owe their loyalty to the creditors and not the shareholders of the debtor, which puts them in a very stressful and difficult position.

Effect of Bankruptcy on Small Businesses
Bankruptcy affects small business owners in different ways, depending on what form of business organization it is. While there are a variety of business designations at the state level, according to the Internal Revenue Service (IRS), for federal tax purposes there are only 6 forms of business organizations:

• Sole Proprietor (1040 Schedule C) - unincorporated businesses that are also called independent contractors, consultants, or freelancers.
• Corporation (1120) - an incorporated business, which is considered a separate legal entity and offers a measure of legal and financial protection for the shareholders.
• Partnership (1065) - partnerships are considered incorporated businesses because, like corporations, they are separate entities from the shareholders. Limited Liability Corporations (LLCs) are taxed as partnerships on the federal level, unless they choose to be taxed as corporations.
• S-Corporation (1120S) - a small corporation that has similar features to a partnership and must have at least one shareholder and no more than 100.
• Trust (1041) - usually formed upon the death of an individual and are designed to provide continuity of the investments and business activities of the deceased individual.
• Non-profit organization (990) - corporations formed for a charitable, civic, or artistic purpose. They are also known as "exempt organizations" because they are typically exempt from federal and state taxation on their income.

Here are some examples of how bankruptcy can affect a business owner of various forms of business organizations:

Because a corporation is a legal entity different and distinct from its shareholders, the bankruptcy of a shareholder does not affect the corporation, nor does the bankruptcy of a corporation directly affect the shareholders in most cases. However, if the officers or shareholders are personally liable for the business debts, he automatic stay in the corporation's case does not prevent creditors from seeking to collect those debts from those liable.

Sub Chapter S and Chapter C corporations are separate designations under tax law, but not under bankruptcy law. They are simply considered corporations. But, any taxable income generated after bankruptcy may still be taxable to the shareholders, since the corporation is not a tax paying entity.

If you are a sole proprietor, your assets, like business equipment or receivables, are property of the bankruptcy estate, which you can only use in your self-employment if they are claimed exempt or abandoned by the trustee in a Chapter 7. Otherwise, these assets may be sold to help satisfy the debts you owe.

Depending on what form of business organization you have, it may be prudent to file for both business and personal bankruptcy. For example, if you are a sole proprietor or corporate officer that is liable for business debts, filing for personal bankruptcy as well as business bankruptcy can help protect your personal assets from being taken to satisfy business debts.

In Conclusion
No matter what type of business you own, bankruptcy can offer you a fresh start under reorganization or straight liquidation. The automatic stay keeps harassing creditors away, and once you complete the bankruptcy process, you can start on the road to financial recovery. Chapter 11 is not a good idea unless you have a lot of assets and an extraordinary amount of debt. Corporate officers liable for business debts and sole proprietors are encouraged to also file personal bankruptcy, so that personal assets aren't seized and used to satisfy business debts.

If you are overwhelmed with business debt and are considering bankruptcy as a solution, contact Bankruptcy Attorney nation now. Our legal partners can help you determine if bankruptcy is the best for your situation. Bankruptcy Attorney Nation looks to offer anyone thinking about filing bankruptcy, the information he or she needs to make an informed decision. You will then have a good understanding of what the law allows when you meet with one of our experienced bankruptcy lawyers.