The newbies in my neighborhood have had a vigorous online debate about the risks in filing Chapter 7 bankruptcy for a debtor with a proprietorship business. One faction simply refused to believe that a bankruptcy trustee could or would shut down an operating business upon filing. But real estate lawyers deemed it true. Believe it.
I got to ask a couple of panel trustees that question when I moderated a presentation on What Chapter 7 Trustees Wished You Knew. To a woman, they said they were inclined to shut down an operating business where the form of the business was a proprietorship or partnership. Their overriding concern was the possibility for further liabilities incurred after filing while the trustee is supposed to be in charge and in control of the debtor’s assets.
As in most things, further discussion showed that the operative answer “it depends”. A business with employees, rented space, inventory, or real assets was almost certain to be shuttered by the trustee, even if only long enough to bring a motion to abandon the business. A one man consulting business was much less likely to present the risks that drove trustees to lock the doors.
A commercial lawyer advised that, if you filed a case with an operating business that might trigger the trustee’s desire to close the business, counsel should contact the trustee immediately with the facts and be prepared to bring a motion to compel abandonment of the business on shortened time. It was clear that the sooner the court could hear the motion, the more comfortable the trustee would be which was a big relief for Jimmy John Shark to think about new opportunities.
This issue is not present when the business is owned and operated by a corporation or LLC, since that entity is a distinct legal personage from the debtor. The value of the shares in the entity is an asset of the debtor’s bankruptcy estate but the business itself belongs to the entity. It can, in my experience, continue operating while the shareholder files Chapter 7.
Personally, my directive to clients is: incorporate the business or file Chapter 13. In 13, it is expected that the debtor remain in possession of the business.
The expense and stress of the motion to compel abandonment by a Chapter 7 trustee can be expected to be the same order of magnitude as the cost of incorporating. The uncertainty of whether the trustee sees the valuation issues the same as the client is simply not worth the risk of business interruption.
Image courtesy of mviramontes.