Keeping Business Afloat with Credit: When to Seek Bankruptcy

When is bankruptcy the right option for a distressed business? There is no single right answer, since there are two main types of bankruptcy available for businesses, with very different consequences:

Chapter 7, or liquidation bankruptcy
Chapter 11, or reorganization

Bankruptcy Overview

First, whether it’s Chapter 7 or Chapter 11, bankruptcy deals with debt. If your business’s problems do not involve excessive debt, then bankruptcy is probably not for you—it won’t help if your problem is simply not enough sales (whether due to too much competition, a bad economy, or other), for example, if you did not also take on too much debt. That’s because what bankruptcy does is provide an opportunity for a debtor to discharge—or eliminate—debt.

Business Structure Matters

Also, remember that while there is a separate “business” if it’s incorporated or established as an LLC, in a very real sense, there is no “business” if you’re a sole proprietor. In that case, the business is you, and you can’t file for bankruptcy on the business without filing on yourself. It still may be the right option, but you have to consider the effect on you personally as well.

Keeping Your Business Afloat with Credit: Eventually, the Bills Come Due

Usually though, if your business is struggling, you have debt to contend with. Maybe it’s term loans, or perhaps it’s a line of credit, credit cards, or credit extended by vendors and suppliers. Possibly it was used for payroll, for sales and marketing, for product development, or for day-to-day operating expenses. Whatever the source, whatever the use, you probably used credit to keep your business afloat.

Bankruptcy helps makes this strategy viable. It provides the business owner the option of using credit, to get through tough times, while knowing that if you can’t, you can discharge the debt. (Obviously, borrowing money intending to not repay it is fraudulent; however, there is nothing wrong with trying honestly to help your business survive and grow while knowing that you have an escape hatch at need.)

Chapter 11

Chapter 11 is “reorganization.” In brief, it allows the business to arrange to pay its creditors a portion of what they are owed, over time. This is an appropriate form of bankruptcy to consider if there’s good reason to think that the cash flow problem—your business’s inability to meet its obligations—is relatively short-term or could be overcome if the business got some breathing room. While there are a lot of restrictions put on a business by filing Chapter 11—and so it’s not something done lightly—this is the bankruptcy for when the business is, or could be, fundamentally viable.

Chapter 7

Chapter 7 is “liquidation.” While it is not required that a business go out of business after filing it, that’s a common outcome—when Chapter 7 is filed, the business’s assets will be liquidated for the benefit of creditors. This is the bankruptcy to wind matters up when Chapter 11 will not keep you in business.

How an Attorney Can Help

A lawyer help you determine when bankruptcy is appropriate, as well as select the right one for your situation. A lawyer can also help you file for bankruptcy, respond to creditor’s objections, and generally navigate what can be a complex process.

Think Bankruptcy Might Be for You?