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What Every Business Owner Needs to Know About Business Bankruptcy

Lucere Legal helps small business owners prepare for bankruptcy

To a business owner, declaring their company bankrupt is often emotionally difficult. The years of effort put into building it from the ground up have likely made it an integral part of your identity—something which it is hard to imagine doing without.

Yet, with the right state of mind, bankruptcy can be turned to your advantage. So long as you laid solid foundations as you launched the business and ensured that your business’s financials are wholly separate from your own, there is every reason to see this setback as incitement for a fresh start.

Getting to that state of mind is, of course, easier said than done and–even when you want it to be—the process of getting to that mindset isn’t always quick or easy. One uncomforting fact is that last year well over 25,000 businesses did just that, so if you are considering the bankruptcy option, you are not alone.

What Happens When You Declare Bankruptcy?

As a small business attorney, I do everything I can to keep you from falling into bankruptcy in the first place, but also to make sure that, if filing becomes a strategic necessary move, you can retain the capacity to move forward with a new venture.

While a future article will cover the alternatives to bankruptcy, today’s post focuses on the process of filing if filing is necessary. What do you need to know about today’s process? A little context is necessary:

Putting it in Context

The founding fathers of the United States knew well the horrors and inefficiencies of so-called “debtor’s prisons”. Common throughout Europe at the time, such prisons bore lesser prominence in the United States and were eliminated entirely in 1833. So too has the stigma against bankruptcy diminished greatly—even becoming a semi-acceptable risk in startup culture.

That is not to say it bankruptcy poses no bump in the road to the would-be entrepreneur. Instead, it is an unfortunate, but entirely surmountable obstacle—provided, of course, that you prepared ahead of time. With that in mind, how do business owners find themselves in over their heads in the first place?

Getting Through the Tough Times

Often business owners start with sufficient financial resources and credit to get the business going, but often those resources get depleted more quickly than a new entrepreneur expects. So the business owner puts in more and more cash and leverages more and more credit. If the business is growing at a faster rate than the money and available credit are being depleted, then the company can make it through. If not, there comes a time when the business owner has to decide if they are going to put everything at stake (putting in every bit of financial resources they have) and even borrow from family members or take on other investors until the business has positive cash flow, or if they are going to take the loss and walk away with what’s left of their personal assets intact.

While it is inspiring to hear about stories of entrepreneurs who went “all in” and made it through the tough times, that’s definitely not an easy or comfortable road and not everyone is cut out for it nor does everyone really have the freedom to make that choice.

If your choice is between keeping a struggling business open and feeding your children, feed your children. If your choice is between managing the stress of tight financial times for another year but suffering from stroke-risking high blood pressure to do it or walking away and staying healthy, walk away and stay healthy.

Don’t get me wrong – I’m all about buckling down, tightening the belt, and working through lean times. Sometimes it’s not a wise decision to do that, though. Sometimes smart and dedicated people work really hard and nonetheless their circumstances make risking it all an irresponsible choice.


Distressing though it will be, bankruptcy is best seen, as it is by many, toward getting your life back in order. The best news of all? It’s not all that bad if you do your research. Depending on exactly which type of bankruptcy you choose, you may be able to continue your business without the pressure you have now from your creditors.


With a sole proprietorship, the business owner files for bankruptcy personally and all the debts of the business are wiped out along with personal debts. With a sole proprietorship, the business owner is personally responsible to all the creditors of the business, so there is no separation for bankruptcy purposes. Before proceeding to corporate bankruptcies, some background on personal bankruptcies is invaluable. A personal bankruptcy can take the form of either a Chapter 7 or a Chapter 13 bankruptcy.

  • Chapter 7

    This is the primary way for an individual to completely wipe out his or her debt obligations. Often, the debt comes as a result of either sky-high medical expenses or poor credit card management. Additional loans may exist.

    It is typically best to turn to the help of an experienced bankruptcy attorney, as the paperwork is highly challenging. All the information on the individual’s assets and debts is compiled into a document that often nears 100 pages. Following the case filing, a date will be set for a ‘creditor’s meeting’ to be interviewed under oath by a trustee.

    If the individual seeking debt relief has not omitted any vital information and can pass the “means” test—they lack any disposable income to pay off their debts–all of the debts are, with some exception, discharged.

  • Chapter 13

    In the case that you do have a source of disposable income and fall outside of the means test, it is most likely that a trustee will place you on a payment plan. After all, your creditors prefer to receive some money back. Typically, the schedule aims for repayment in three to five years. If all the debt cannot be paid off in five years, then the remaining debt is discharged just like in a Chapter 7 bankruptcy.


A business entity like a corporation or an LLC can have a business bankruptcy while the owner doesn’t necessarily have a personal bankruptcy. Provided that you have kept the business finances separate from your personal finances, you have kept your business records properly and up-to-date (and I mean corporate records, not just financial), and you haven’t done anything that is fraud-like (getting credit extended under false information or while knowing that you would be filing for bankruptcy), then only the business will be responsible for the business debts, and your personal assets will go untouched.

A business can file for a Chapter 7 bankruptcy, but if it does then the assets of the business are completely liquidated and used to pay the creditors, and the business no longer exists or operates after the bankruptcy.

Only individuals can file for chapter 13 bankruptcy, but for both individuals and business entities, Chapter 11 may be a possibility. You may have heard it called a “Chapter 11 Reorganization.” Similar to a Chapter 13, a payment plan is scheduled for the years ahead, but there is no time limit. Since there is no time limit, all the debts get paid off eventually. In addition to managing creditor payments, the court has the ability to replace the company management with a bankruptcy trustee who controls the company until the debts are paid off and the business comes out of bankruptcy .

How we can help

Keep in mind that bankruptcy is a complicated and document intensive process. You are required to disclose everything regarding your finances in order for the trustee, creditors and judge to be satisfied with the reorganization and/or payment plans or to approve the debt discharge. It is not something you want to navigate on your own, and a business bankruptcy is best handled by a well seasoned attorney who has a good working relationship with the court, the bankruptcy trustees, and the court’s administrative office.

If you want to learn more about this, you can hear about it in Episode 14 of The Small Business Buzz Podcast.

If you have found that you are getting close to a time when your debts are becoming unmanageable, contact us before you stop paying on your debts. There are many steps that can be taken short of bankruptcy to get your business back on track. We may be able to help. And if a business bankruptcy is on your horizon, we can refer you to the attorneys that we know and trust, so that your case will be handled right. Call today at 612-2060-3701 or reach out via our online contact form.

Image courtesy of jesadaphorn | FreeDigitalPhotos.net

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