Choosing the Right Small Business Bankruptcy Option During the Coronavirus Outbreak

Each bankruptcy chapter offers unique benefits and works differently depending on whether you or your small business files the case. Understanding these dynamics will help you choose the solution that best fits your small business bankruptcy needs.

Bankruptcy for Small Businesses Affected by COVID-19

Most businesses will file for either Chapter 7 or Chapter 11, with a few filing for Chapter 12—the bankruptcy type reserved for farmers and fishermen.

Chapter 7 Closes Most (But Not All) Small Businesses

If you’re a sole proprietor looking for a strategy to reopen after shelter-in-place orders lift, or if you’re planning to close a company permanently, filing for Chapter 7 can help your small business (click the link to learn how). But only in a few specific situations.

Because of pitfalls inherent in a Chapter 7 business filing, most business owners opt to close a business outside of bankruptcy and to file an individual Chapter 7 to wipe out personal liability for business debt, instead. Find out why by reading Why Most Small Businesses Won't File for Chapter 7 During the Coronavirus Pandemic.

Chapter 11 Keeps Small Businesses Open

Chapter 11 bankruptcy is the chapter intended to help businesses reorganize debt and stay in business. Historically, it has been too cost-prohibitive for most small businesses. But that’s changed. Under Chapter 11, Subdivision V, the new chapter for small businesses, the process looks and feels more like a Chapter 13 bankruptcy, making it a more user-friendly, cost-effective option. Read How Chapter 11 Bankruptcy Can Help Small Businesses During Coronavirus Outbreak to learn about this new procedure.

Chapter 12 Keeps Small Farmers and Fishermen Operating

Small farmers and fishermen who have regular annual income and whose obligations don’t exceed the current limits can reorganize debts and make monthly payments into a repayment plan. Very few debtors file Chapter 12 cases each year. Chapter 12 Bankruptcy for Farmers & Fishermen covers this chapter in more detail.

Bankruptcy for Small Business Owners Affected by COVID-19

It often makes more sense for the small business owner to file for bankruptcy rather than the business itself. If reducing your personal debt will keep your company open—or if you need to wipe out personal liability after a business closure—consider these options.

Chapter 7 Erases Personal and Business-Related Debt

Sole proprietors with service-oriented companies or people with an ownership interest in an LLC or corporation might find that discharging personal debt in an individual Chapter 7 case can help keep a company open (this filing often violates partnership agreements, however). After a small business closure, sole proprietors, partners, and signors of personal guarantees can wipe out personal liability for business debt by filing for Chapter 7 individually; however, this isn’t a good option if the debtor stands to lose a significant amount of personally-owned property. Find out more about what happens when a business owner files an individual Chapter 7 case.

Chapter 13 Lowers Monthly Debt Payments and Erases Debt

Only individuals can restructure debt under Chapter 13; however, small business owners impacted by COVID-19 who have a steady income to pay into a three- to five-year Chapter 13 repayment plan can use this chapter to take advantage of options that aren’t available in Chapter 7. For instance, filers can keep all property, including homes, cars, and businesses—and can wipe out more types of debt than in a Chapter 7 case. Find out more about how Chapter 13 can help a small business owner during the coronavirus pandemic.

Filing “Chapter 21” After the Coronavirus Outbreak

If you’ve never heard of Chapter 21, you’re not alone—it isn’t an actual bankruptcy chapter. Instead, it’s a filing strategy wherein a small business owner files for Chapter 7, and once complete, immediately files for Chapter 13. Here’s how it works.

The Chapter 7 case wipes out qualifying debt, such as credit card balances, medical bills, and personal loans. But because not all debt can be discharged in bankruptcy, a debtor will remain responsible for nondischargeable debt, such as recently incurred tax debt or support arrearages. By immediately filing a Chapter 13, the filer can pay off the nondischargeable debt over three to five years without the threat of creditor collection. Plus, the debtor can use all available funds to pay toward the nondischargeable debt. And, if the filer can’t complete the Chapter 13 case, all other bills will have already been discharged in Chapter 7.

Not all jurisdictions allow Chapter 21 filings, so speak with a local bankruptcy attorney before filing.

Consult With a Bankruptcy Lawyer

An attorney must represent small businesses that file for bankruptcy, but small business owners who file individually benefit from professional representation, too. A bankruptcy lawyer experienced in business-related filings can help you select the right option, and most bankruptcy attorneys provide the first consultation at no cost.