Imagine that after you have your new dream home constructed, you discover a problem. The water pipes are leaking; the foundation is unsteady; or the brick appears to be cracking. You try to negotiate by calling your contractor. You even hire a lawyer to write demand letters. Having exhausted all of your options, you are getting ready to sue.
But then, you hear that the contractor is filing for bankruptcy. How does this affect your course of action? Should you sue anyway, or attempt to settle before the bankruptcy proceedings begin?
Before you hire a lawyer and begin the long process of conducting discovery and taking depositions, you’ll want to consider whether the litigation will be cost-effective. Remember, successful litigation can only result in a money judgment from a court – a piece of paper that says that the contractor owes you money.
Established businesses will typically pay their judgments, because they have assets and need to be able to continue to do business in the community. If the contractor has no money, however, or has its assets protected in bankruptcy, then your judgment might not be worth the paper it’s printed on. Enforcing a judgment isn’t easy, and it costs money. This is true even if the entity has the money in its bank account, but is unwilling to pay; it is far more difficult if the entity is going through bankruptcy.
For more information on this consideration, check out Nolo’s piece entitled, “Can You Collect Your Judgment?” Consider the size of your claim. If you are suing your contractor for only a few thousand dollars' worth of faulty work, it might not make economic sense to proceed with an expensive lawsuit and judgment enforcement process.
If the business really is going into bankruptcy, your goal should probably be to get a settlement as quickly as possible. Bankruptcy litigation can take years to unfold, and unless your claim is large, you will likely be better off with a smaller, but faster, cash payment.
Trying to sue an individual business owner is one way to bring them to the negotiating table. It isn’t uncommon for small contracting company to be owned and operated by a single individual – the same person who negotiated with you on the original contract and handled most of the work. Even if the builder is part of a larger company, you can often discover the name(s) of the individual officer(s) or owner(s).
If solely the company, and not the individual, plans to file for bankruptcy, it may be a smart tactic to sue both the company and an individual officer of that company. While LLCs and corporations are common legal constructs meant to protect the individual business owners from liability, courts will sometimes ignore this corporate shell. This is known as “piercing the corporate veil.” Though this remedy is rare, courts will consider it, particularly in cases where the LLC or shell company was undercapitalized, or where the individual business owner perpetrated a fraud. (An undercapitalized LLC might be a construction company with only $100 in its accounts, which suggests that it’s a shell corporation; a business owner perpetrating a fraud might include a builder that promised to fix your structural foundation with steel support beams, but installed cheap wooden beams, instead).
By naming the individual in your lawsuit, and/or asking the court to pierce the corporate veil, you are attacking not just the company but that person’s own bank accounts and property. This alone can sometimes scare the person into a settlement. Remember, for your purposes, it doesn't matter whether the money comes from the defunct company’s account or the owner’s personal account; you just want to get paid a settlement before the bankruptcy proceedings begin.
One of the primary reasons that businesses will file for bankruptcy is to avoid creditors. In this situation, you are a creditor of your contractor; you are claiming that the contractor owes you money for defective work.
Most commonly, Chapter 7 bankruptcy filings can save both individuals, and the businesses they run, from certain types of liability. It involves liquidating all business assets – that is, selling the contractor’s equipment, vehicles, and office furniture. That provides cash to pay debtors and wind up the affairs of the business. However, don’t get too excited. Chances are, you are not the only creditor. There will be a long line of others looking to pick at the company’s remaining flesh.
If you are still interested in suing your bankrupt contractor, you probably have a significant claim against it. Most debts will be discharged by the court; however, an adversary proceeding is a separate lawsuit that challenges the dischargeability of a debt the contractor owes. Because bankruptcy is a complicated and highly specialized area of law, it would be wise to consult a bankruptcy litigator. This attorney will have experience dealing with the bankruptcy court and appointed bankruptcy trustee to try to get your debt paid. Note that this can be a lengthy and expensive process.