Chapter 13 Bankruptcy for Small Businesses: An Overview
If you're a small business owner struggling with debt, Chapter 13 bankruptcy may help you reorganize your debts and save your business.
If you own a small business, filing for Chapter 13 bankruptcy may help you reorganize your debts and save your business. Read on to learn more about who can use Chapter 13 bankruptcy and how it can help you.
How Does Chapter 13 Bankruptcy Work?
A Chapter 13 bankruptcy allows you to keep your assets while reorganizing and paying off all or a portion of your debts through a repayment plan. The repayment plan usually lasts three to five years. During the bankruptcy, you make monthly payments to a bankruptcy trustee who then pays your creditors according to your plan.
How much you have to pay back depends on your income, expenses, and the types of debt you have. Generally, the higher your income, the more you will be required to pay. However, certain debts (called priority debts) must be paid off in your plan regardless of income. These include certain taxes and domestic support obligations among others. At the completion of your repayment plan, any remaining unsecured debts are discharged.
(To learn more about Chapter 13 bankruptcy and the repayment plan, see our Chapter 13 Bankruptcy area.)
Can Small Businesses Use Chapter 13 Bankruptcy?
If your business is considered a separate legal entity (such as a corporation or a limited liability company) it cannot file Chapter 13 bankruptcy in its own name. Only individuals can file a Chapter 13. (To learn more, including what options will work for corporations and LLCs, see Can I File Chapter 13 Bankruptcy for an LLC or Corporation?)
However, sole proprietorships and certain partnerships are not considered separate legal entities distinct from their owners. So if the owner files Chapter 13 bankruptcy, it will provide the same benefit to the business. Further, even if your business is a separate entity, you may still be able to include a business debt in your Chapter 13 if you are personally liable on it.
Can You Include Business Debts in Chapter 13 Bankruptcy?
In your Chapter 13, you must include all debts for which you are personally liable. If your business is not a legal entity offering limited liability, you are personally obligated to pay its debts. The most common example of this is a sole proprietorship. A sole proprietor and his or her business are treated as the same person so all business debts are included in the bankruptcy.
If your business is a corporation, limited liability company, or another form of separate business entity, you cannot include its debts in your bankruptcy unless you can show that you are personally liable on the obligation. Usually, if you cosigned or personally guaranteed a business debt, you will be on the hook for it. So you can include it in the bankruptcy.
Benefits of Chapter 13 Bankruptcy to Small Businesses
Chapter 13 bankruptcy provides several benefits and advantages to your small business which can help to keep it running.
Wipe Out Business Debts
As we discussed, if you are a sole proprietor, your business debts are not distinguished from your personal debts. This means that you can discharge any nonpriority unsecured business debts such as credit cards when you complete your plan. After discharge, the creditor cannot collect from you or the business.
However, if a debt was included in your bankruptcy because you cosigned or guaranteed the debt for your business (which was a separate legal entity), then the discharge wipes out only your personal obligation and the creditor can still go after the assets of the business.
Pay Off Priority Creditors
If your business has priority debts like taxes you can pay them off in your repayment plan. You can include and pay off these debts in the Chapter 13 if you are a sole proprietor or are otherwise personally liable on them in addition to the business.
Cram Down Secured Loans
Through your Chapter 13 plan, you may be able to reduce the balance of certain secured debts (such as car or equipment loans) to the value of the property. This can reduce the burden on your business by consolidating these loans into your repayment plan and lowering your monthly payments.
(To learn more about cramdowns in Chapter 13, see Reducing Loans and Non-Residential Mortgages in Chapter 13 Bankruptcy.)
Keep Your Business Assets
If your business has nonexempt assets, Chapter 13 bankruptcy allows you to keep them while you reorganize and pay off your debts. Unlike a Chapter 7 where the bankruptcy trustee takes these assets and sells them, Chapter 13 allows you to keep operating your business. But keep in mind that you have to pay your unsecured creditors an amount equal to the value of your nonexempt assets in your plan.
(To learn more, see Keeping Your Business in Chapter 13 Bankruptcy.)