Corporate Chapter 7: The Other Side Of The Coin

coin both sidesThe reasons not to file a Chapter 7 for a failing corporation crowded my last post.

My point was that just because the person in your office thinks his corporation should file bankruptcy, it may not be so.

Today: the situations where it might be worth the downside risks to file a 7 for a client’s corporation.

Because, like most issues in advising real people, corporate and corporeal, it depends.

My list of  possible benefits:

  1. To preserve assets that could pay tax or guaranteed debts from other creditors.  The first creditor to sue seldom is the first creditor the shareholders would choose to pay.  They may have personal exposure for payroll taxes or premises leases.  Those are the debts they want paid first.  The automatic stay may allow that to happen.
  2. To obtain a trustee from whom insiders could buy corporate assets.  Transactions between a failing corporation and its shareholders by which former management acquires the valuable assets are suspect.  If, however, the seller in the transaction is a court appointed trustee, after notice to creditors, who can complain?
  3. To permit insiders to open new business free of duties to creditors of corporation  Management of an insolvent corporation owes duties of loyalty to the corporation.  Those duties seldom include going into competition with the corporation.  File bankruptcy and you have a clear and verifiable statement that the corporation had no future.  Management is free to move on, including starting afresh in the same marketplace.
  4. To discourage collection suits that might reflexively name the shareholders as defendants.  Wasn’t the first thing we were taught in civil procedure to fill all the chairs with defendants?  Collection attorneys went to law school, too.  Asked to collect from a corporate account, they are inclined to name management or  shareholders in their suit, regardless of any evidence that the individuals are liable.  I have found the instances of a stand alone suit against shareholders, after a corporate bankruptcy, to be few.

Your mission, then, is to weigh the pros and cons of filing a corporate 7 with the real folks who sit across the desk from you.  Walk them through the issues.

Consider putting the alternatives on paper in a letter, so you can cut off the protest, “you never told me”, when something uncomfortable or complicating happens.

Welcome to the exciting world of business bankruptcy.

Image courtesy of Shardayyy

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