Which Business Debts Are Discharged in Chapter 7 Bankruptcy?

Any business or personal debt that qualifies for a Chapter 7 discharge will be erased as long as an individual or sole proprietor files for Chapter 7 bankruptcy. Find out what you should know about Chapter 7 and business debt, including:

• who can wipe out business debt in Chapter 7 bankruptcy
• the differences between dischargeable and nondischargeable debt, and
• why most people avoid winding down a company using Chapter 7 bankruptcy.

You'll also learn why the most effective way to erase your responsibility to pay business debts is to file for Chapter 7 bankruptcy yourself. But keep in mind you could lose property in Chapter 7, making it essential to meet with a knowledgeable local bankruptcy lawyer.

Can a Business Use Chapter 7 Bankruptcy to Erase Business Debt?

In most cases, no, because unless the business is a sole proprietorship, a business can't discharge debts in Chapter 7. The business will remain responsible for the obligation.

Learn about small businesses and bankruptcy.

Can an Individual Wipe Out Business Debts in Chapter 7 Bankruptcy?

Yes, many debts that might drive a business owner to consider filing for bankruptcy can be erased if the business owner files an individual Chapter 7 case. Because of this, it's common for business owners to wait until after the business closes to file a personal Chapter 7 than put the business itself in Chapter 7.

This approach is more beneficial because the owner can wipe out personal guarantees for business debt and the filer's personal debt. Also, a filer doesn't have to take the Chapter 7 means test to qualify for Chapter 7 if the filer's business debt exceeds the filer's personal debt.

Find out more about what happens when you're personally responsible for business debts.

Which Business Debts Can an Individual Discharge in a Personal Chapter 7?

You can erase any business debt you're responsible for paying if the debt generally qualifies for a Chapter 7 discharge. For instance, The following is a list of debts anyone can wipe out in Chapter 7 bankruptcy:

• credit card bills
• some lawsuit judgments
• medical bills
• unsecured debts, such as debts to suppliers, consultants, and professionals like accountants or architects
• obligations under leases and contracts, including commercial and residential property leases and leases to rent equipment
• personal loans and promissory notes, and
• mortgages, car loans, and other debts if you return the property securing the debt, such as the house or car.

It's important to notice you must return collateral to erase a "secured" loan. But in all likelihood, you'd need to do so if the Chapter 7 bankruptcy was part of a company winddown. You'll find more about using Chapter 7 to close a company below.

Why Must I Give Back Collateral When Wiping Out a Secured Business Debt?

A creditor with a lien on collateral can take back the property securing the loan if you don't make your payments, even if you file for bankruptcy. Find out more about what happens to liens in Chapter 7 bankruptcy.

Do Other Business Debts Survive Chapter 7 Bankruptcy?

Some types of debt aren't dischargeable in Chapter 7 bankruptcy regardless of whether the obligation is a personal or business debt. Some common types of nondischargeable debt include:

• back child support, alimony, and other domestic support obligations
• court-imposed fines, penalties, and restitution
• certain tax debts—including recent back taxes, any back taxes for which you didn't file a tax return, trust fund taxes (the employee's portion of Social Security and Medicare taxes), and debts you took on to pay nondischargeable taxes (for example, if you took a cash advance on your credit card to pay your most recent tax bill)
• presumptive fraud—debt for a luxury item purchased during the 90 days before you file or a cash advance within 70 days before you file (over a certain amount)
• loans owed to a pension plan, such as money you borrowed from your 401(k)
• student loans unless you can prove in a bankruptcy trial that repaying them would constitute an extreme hardship
• debt arising from fraudulent activity (for example, lying on a loan application), if the creditor proves the fraud to the bankruptcy court, and
• debt resulting from a death or injury incurred while driving under the influence.

Learn more about using Chapter 7 bankruptcy for business debts in Chapter 7 for Small Business Owners: An Overview.

When You Might Not Have to Pay a Nondischargeable Business Debt

If the Chapter 7 trustee sells your property, the proceeds will likely be used to pay toward your nondischargeable debt, lowering the amount you'll owe after bankruptcy. The trustee must pay priority debts first, and most priority debts are nondischargeable, although student loans are a notable exception.

Winding Down Your Company Using Chapter 7 Bankruptcy

You can use Chapter 7 bankruptcy to wind down a business transparently, but better options usually exist. Not only does Chapter 7 bankruptcy hold special problems for partnerships, such as opening up the partners' personal assets to creditors, but filing Chapter 7 for a corporation or LLC might not be a good idea, either.

Not only does the business not receive a debt discharge, but the bankruptcy opens up a forum for creditors to easily address other potential grievances and attempt to make officers and others personally liable for business obligations.

Before proceeding with a business Chapter 7, consider retaining a bankruptcy attorney or business lawyer. A lawyer is best positioned to advise you about your options when dissolving the business.

Need More Bankruptcy Help?

Did you know Nolo has made the law easy for over fifty years? It's true—and we want to ensure you find what you need. Below you'll find more articles explaining how bankruptcy works. And don't forget that our bankruptcy homepage is the best place to start if you have other questions!

We wholeheartedly encourage research and learning, but online articles can't address all bankruptcy issues or the facts of your case. The best way to protect your assets in bankruptcy is by hiring a local bankruptcy lawyer.