First, is the business a corporation, a partnership, or a proprietorship?
- Corporations, limited liability companies and partnerships are legal entities separate from their shareholders or partners. They can file Chapter 7 or Chapter 11 bankruptcy in their own right.
- Partnership pitfall: In a partnership's Chapter 7 case, the trustee can sue the general partners of the partnership if the partnership's assets are insufficient to pay all claims for the amount by which the partnership assets fall short of partnership debts. 11 U.S.C. 723.
- As a result, partners may be facing a suit by a well funded trustee suing for the benefit of all creditors of the partnership.
Should the business be reorganized or liquidated?
To answer this question, you have to know what has caused the problems the business now faces and what are the prospects for change:
- Reorganization can't create a market; increase gross revenue, or make up for a poor fit between the skills available and the skills required to run the business.
- Reorganization could free up cash from servicing the old debt to permit current operations; permit rejection of leases or contracts that are no longer advantageous (an expensive facility lease or improvident equipment purchase); or prevent the loss of vital assets or cash to creditor collection actions.
In between Chapter 7 liquidation and reorganization, a liquidating Chapter 13 or Chapter 11 could provide a breathing space for the owners to sell the business as a going concern or or its assets in something other than a fire sale.
The resulting proceeds could pay taxes or unpaid salaries; sale of the business could provide ongoing jobs for the work force under new ownership. The bankruptcy could then be converted to Chapter 7 or dismissed if bankruptcy protection is no longer needed. The court will probably condition dismissal of the case on payment to creditors of the sale proceeds.