Frequently Asked Questions About Bankruptcy
Bankruptcy is misunderstood, surrounded by myths and negative stereotypes. At Business Bankruptcy Solutions, we dispel the myths and provide our clients with reliable and actionable information that will create a positive outcome.
Here are some frequently asked questions about small business bankruptcy. It is only a general guide; I will provide counsel that is relevant to your unique circumstances when you contact me.
What are the bankruptcy chapters?
The Bankruptcy Code is broken up into different types of bankruptcy, called chapters. Here is a brief overview of each:
- Chapter 7 for individuals: The court will sell certain types of the filer’s property. The money pays creditors and the filer is then free from debt.
- Chapter 7 for businesses: As with individuals, business assets are sold to pay creditors. There is a winding-down process to maximize the sales proceeds.
- Chapter 11, Subchapter V for small businesses: The filer keeps ownership and control over their business. The filer creates a plan for the contracts (to reject, modify, or retain) and a 3-5 year debt payment plan. Once complete, the filer is free of debt and unwanted contracts.
- Chapter 11 for large businesses: Like Subchapter V, except the sums are larger, the creditors are much more involved, and the costs are much higher.
- Chapter 11 for commercial real estate: Liens on “underwater” property can be eliminated or reduced down (“crammed down”) to whatever the asset is now worth. Contracts, including mortgages, can be altered or eliminated.
- Chapter 11 for individuals: When a filer’s income or assets preclude Chapters 7 or 13.
- Chapter 13 for individuals: The filer reorganizes debt into a payment plan. The filer keeps all assets and is free of debt at the end of the 3-5 year plan period.
- Chapter 13 for sole proprietors: Since the filer is liable for both personal and business debts, the payment plan discharges debt and contracts.
- Chapter 13 for businesses: Businesses (e.g. LLCs, partnerships, corporations, etc.) cannot file Chapter 13. But the business owner can eliminate personal debt to better support their business.
- Other chapters: Special chapters cover farmers, fishermen, stock brokers and more.
When should I start considering bankruptcy?
Now. Like most things in business and life, sooner is better. The sooner we create your strategy and begin making adjustments, the less likely you will ever need to file at all. If you do end up filing, starting the process 3-6 months ahead of time gives us more maneuvering room to get you the best possible outcome. Think of it this way—you visit the doctor or dentist regularly; you don’t wait until something goes wrong. If you do wait, you’ll need a much more painful and expensive procedure. Bankruptcy is definitely a case of, spend a little now, or spend a lot later.
How long does bankruptcy take?
Bankruptcy is a marathon, not a sprint. When courts are running smoothly, bankruptcy takes several months to years. During an economic crisis, however, bankruptcy cases take longer due to the flood of cases swamping the courts.
Bankruptcy cases have three phases: pre-planning, filing and progress of the case to approval, and time until final discharge.
The amount of time for pre-planning depends on the complexity of the facts and the number of moving parts. Pre-planning can require as little as several weeks, but several months is normal. As soon as the case is filed, creditor collection efforts (calls, lawsuits, foreclosure, etc.) will stop, a big personal relief. Case progress and time until final discharge range from several months to several years, depending on the chapter.
Timelines for each chapter:
- Chapter 7 – Case progress and discharge require five months at a minimum for the simplest cases, though two months of that is simply waiting for the final paperwork after the final meeting.
- Chapter 13 – Case progress requires at least three months to obtain approval for a repayment plan. The payment plan lasts three to five years. Discharge happens when all payments are made.
- Chapter 11, Subchapter V – Case progress requires at least three months to obtain approval for a repayment plan. The payment plan lasts three to five years. Discharge happens when all payments are made.
- Chapter 11 for large businesses – These can be the slowest bankruptcies, sometimes taking decades.
How much does bankruptcy cost?
Bankruptcy is a bargain or it’s expensive; it depends on your perspective. It can cost as little as a junkyard car. And, even when it costs more, it still costs significantly less than selling a house with a real estate agent. The chapter, the facts, and what the opposing parties do all determine the final cost.
- Chapter 7 - $2000, for a very simple consumer Chapter 7 case with few assets.
- Chapter 13 - $3000, for a very simple consumer Chapter 13 case; a more complex case costs about $5000. When there is a business ownership component the cost will be higher.
- Chapter 11, Subchapter V - It is brand-new, so cost data does not exist. It may be up to 5% of the businesses assets, if there are assets. An asset-lite 11-V should cost somewhat more than a Chapter 13, but costs above that baseline are a result of the actions taken by opposing parties.
- Chapter 11 for large businesses - 2% of the bankruptcy estate. The vast sums involved spread out some fixed costs and so drives costs down, but then actions of opposing parties are far more numerous, driving costs back up.
What are the downsides of bankruptcy?
Generally, my goal is to help clients avoid bankruptcy unless it is necessary. Downsides include:
- Trauma - Bankruptcy is litigation. The bigger the dollar amounts, the more adversarial the litigation. Even many attorneys avoid litigation, despite the very high fees they can earn.
- Time and cost - Legal proceedings are always time-consuming and expensive. Bankruptcy requires an immense amount of planning and organization prior to filing. And there is significant accountability and oversight reporting in reorganization cases, which means you will have less time for other business tasks, like making new sales and managing your employees.
- Restrictions - Your firm may not have flexibility to pursue new ventures during the payment plan years. You will need approval for unusual and large transactions. Fortunately, the process is much less restrictive for small businesses than for large companies.
- Stigma - Despite being a constitutional right (preceding the Bill of Rights, no less), bankruptcy still carries a negative stereotype. On a positive note, you don’t need to tell anyone unless they are a party to the case.
- Credit score - Unless the credit score was already very low, bankruptcy usually lowers it. Low credit scores increase the cost of many things, from insurance to borrowing. Fortunately, diligent efforts made after filing can dramatically increase your business’ credit score in a year or two. Apart from impacting your score, the bankruptcy is also listed on your credit report. This may come up on applications for certain professional or business licenses.
What are the benefits of bankruptcy?
Despite the above negatives, bankruptcy may often be the best or only solution to your problem. In a worst-case scenario bankruptcy, you’ll need to liquidate your company and close the doors, but even this can be a blessing, freeing you for a new venture, armed with everything you’ve learned. In the best-case scenario, Subchapter V Chapter 11 stop collection actions, significantly reduces debt, eliminates expensive contracts, and prepares your business to thrive, all for less than it would cost to sell a house.