Business Bankruptcy Laws for Sole Proprietors

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Per business bankruptcy laws, the process of filing for bankruptcy for individuals and businesses is significantly different, especially concerning the issue of personal liability for debts verses business liability for debts. For sole proprietors, the business owner must file personal bankruptcy, due to the fact that their sole proprietorship is not a business entity with separation between the individual and the business itself. In these cases involving bankruptcy of a sole proprietorship, the owner must file under one of the following chapters of bankruptcy, including Chapter 7, Chapter 13, or depending on the extent of the assets and debts involved, possibly Chapter 11.

Distinction of Sole Proprietorship and other Business Entities

The sole proprietorship is not a distinct business entity from the owner of the sole proprietorship, as would be an owner in a limited liability company. Therefore, if the sole proprietorship ultimately faces bankruptcy, the owner of the sole proprietorship is held personally liable for the debts incurred, unlike the owner of a limited liability company, who will have no personal liability and only the LLC itself will be liable for debts during the bankruptcy process.

Sole Proprietorship and Bankruptcy

Unfortunately, what this means for the sole proprietor is that creditor claims with the sole proprietorship can result in creditors going after the individual and personal assets of the sole proprietorship owner. These assets potentially sought by creditors include personal bank accounts, wages earned from the sole proprietorship, assets of the sole proprietorship business, personal homes, and personal vehicles of the sole proprietor. In essence, without the legal distinction between owner and business, anything owned by the sole proprietor in his or her personal life and business life is on the table for collection by creditors.

Upon advice of legal counsel, a sole proprietor facing bankruptcy should consider the following chapters of bankruptcy as last viable remedy to their outstanding debt obligations, including:

  • Chapter 7, which would require liquidation of all personal assets and assets involved in the sole proprietorship, while also engaging in a discharge of certain debt obligations of the sole proprietorship, both personal and business, as the courts see both as the same. In most cases, Chapter 7 will be the last viable option for a debtor, and is only filed in light of overwhelming debts facing little or no income from the sole proprietorship.
  • Chapter 13, which will involve reorganization of the sole proprietorship owner’s finances, while also incurring the oversight from the courts during a pre-determined plan of repayment of all debt obligations. This option will allow the sole proprietor to retain all assets, including those related to the sole proprietorship exclusively and personal assets, assuming the conditions of the Chapter 13 plan are met. (See also keep your sole proprietorship in a chapter 13 bankruptcy).
  • Chapter 11, which allows reorganization and repayment of the debts, while also incurring the oversight of a bankruptcy trustee, who may allow an owner to continue to run the sole proprietorship. This option is often appealing to owners who still have a viable income derived from the sole proprietorship, but simply cannot keep up with outstanding debt obligations.

Getting Legal Help with Sole Proprietorships and Bankruptcy

In any case, any attempts to file bankruptcy should revolve around consultation and representation by a bankruptcy lawyer, who has insight about your personal bankruptcy situation, as well as insight on how your business operates, what the status of your debt obligations are, and numerous other items of case-specific information. With this information in hand, an informed decision can be made, which will ultimately mitigate the losses an owner experiences from filing bankruptcy.

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