Nothing in the law says a business owner can't file for bankruptcy. But the real question is whether you'll still own that business after it's over. The answer? It depends. Factors such as how you organized the company, what it does, and whether you can "exempt" or protect company assets or your ownership interest will determine its fate.
Yes. However, you must be able to protect your ownership interest using a bankruptcy exemption. Bankruptcy exemptions are laws outlining property a debtor can protect in bankruptcy.
If you can't exempt your business interest, you'll likely lose it in Chapter 7, the liquidation chapter. In Chapter 13, the bankruptcy type that reorganizes your finances, you must pay for any portion you can't exempt over five years.
If you're familiar with how bankruptcy works and you know how your business is organized, skip to the "What Happens to Businesses in a Personal Bankruptcy" Chart. You'll find concise answers about filing for bankruptcy when owning a business. Otherwise, consider referring to the helpful background articles above before continuing.
Before determining whether you can protect your business interest with a bankruptcy exemption, you must know how your company is organized. Is your company a sole proprietorship, partnership, LLC, or corporation?
Is the Business a Sole Proprietorship? If you haven't drafted any ownership agreements, you probably own your business as a sole proprietor. In a sole proprietorship, the company is an extension of you. For instance, it might be described as Dale Franklin doing business as (d/b/a) Frank's Fine Furniture. You own the assets of the company, such as the vehicles, lawn and gardening equipment, customer lists, and the company's debts are your debts.
Is the Business a Partnership? If you own your business with others, but it isn't incorporated, you likely own it as a partnership. When filing for bankruptcy, you'll list your personal and partnership assets as business assets. As a caveat, filing bankruptcy when you own a partnership can affect all partners' business and personal assets, even if they aren't bankrupt.
Is the Business an LLC or a Corporation? If your company is incorporated, you own interest in it, not the company itself. You might own 100% of the stock or share ownership with other stockholders. Even if you own 100%, the company owns its assets and is liable for its debts (however, when you're the only owner, the corporate distinction isn't meaningful in bankruptcy).
If you own the entire company, you'll need to protect the company's value or assets, whichever would be worth more (see why the corporation distinction doesn't mean much?). If you share ownership with others, you'll exempt the value of your ownership percentage or corporate stock.
Once you know what you must exempt, you'll be ready to determine whether the bankruptcy exemptions available in your state are adequate. Some states offer exemptions for business interests, but none exempt corporate stock. Other options include wildcard exemptions and "tools of the trade" exemptions.
Typically, a wildcard exemption will cover any property you choose. However, not all states offer them, and some have property restrictions. A tools of the trade exemption protects things needed in your trade or profession.
Below is a chart you can rely on for quick answers about what will happen to your business interest if you file a personal bankruptcy in Chapters 7 or 13. The analysis assumes you plan to file an individual Chapter 7 bankruptcy or Chapter 13 bankruptcy in your name, not putting the company itself in bankruptcy.
Find out more information small business owners should know about Chapters 7 and 13.
Chapter 7 |
Chapter 13 |
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Sole Proprietor |
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Partnership |
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LLC or Corporation |
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You'll lose it in Chapter 7. However, because the Chapter 13 trustee doesn't sell property, you'd have to pay its value through the Chapter 13 plan. Otherwise, you wouldn't qualify for Chapter 13. Learn whether you're eligible for Chapter 13 bankruptcy.
Sometimes, an asset isn't exempt, but selling it wouldn't recoup enough to be worthwhile. For instance, small family businesses dependent on a particular person's skill aren't easily sold, and the trustee might abandon the enterprise. In Chapter 13, the debtor would argue that these factors significantly decrease the business's value.
Also, a Chapter 7 trustee can't sell a service-only sole proprietorship, such as a single-person accounting firm, a business consulting or interior designer service, or a window painter's business. Instead, the trustee would liquidate equipment, products, materials, and other valuable business assets. In Chapter 13, the debtor would pay the value of the business assets through the plan.
Similarly, the trustee can't sell the business assets owned by an LLC or corporation (unless you're the sole member or shareholder, as discussed above). Instead, the Chapter 7 trustee would sell your stock or ownership percentage, or you'd pay its value in Chapter 13.
Example 1. You own an unincorporated business called Frank's' Fine Furniture. You're a carpenter who builds custom furniture. You own your tools, a small woodshop, a pickup truck, and the materials needed to craft your custom pieces. Your tools are exempt, but the rest of the business assets are not. Because it's a sole proprietorship, the trustee can't sell your interest in the company but can liquidate the nonexempt assets. You'd pay that value in Chapter 13.
Example 2. Frank's Fine Furniture is incorporated. You own 100% of the stock and estimate the company has assets worth about $20,000. But, without you designing and building the furniture, Frank's Fine Furniture has no additional value. The trustee can sell the stock; however, the value of the business won't include your expertise and will likely be worth $20,000. In Chapter 13, you'd pay $20,000 through the five-year repayment plan.
Example 3. Frank's Fine Furniture is incorporated. You own 100% of the stock. The company has 25 employees, hard assets, like machinery, real property, and vehicles, worth $10,000,000, and annual revenues of $3,000,000. You no longer design or craft the furniture yourself. The trustee will sell your interest in the company (the stock) at total value because it no longer depends on your talents, good name, or assets, whichever would recoup more. By contrast, if you owned 50% of the stock, the trustee would be limited to selling 50% of company stock. You'd pay the equivalent amount in Chapter 13.
Learn how bankruptcy trustees get paid. It will provide insight into the overall process.
Filing for bankruptcy is more complicated when you own a business. You need to understand what will happen to your company, and you'll likely have to provide financial information for you and the company. To ensure you're doing what's best, consider hiring a bankruptcy attorney experienced in handling business-related cases who can help you evaluate what you stand to lose and discuss any alternatives available.
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!
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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.