At times, a business could be pushed to its limits, forcing it to file for bankruptcy. In this case, being the debtor, the business cannot meet its obligations to its issuers which makes it necessary to file a petition claiming bankruptcy. Upon measuring and evaluating a business’s assets, the debtor could be legally compelled to dispose of some of the assets to repay a portion of what is owed. Both parties, that is, the debtor and the creditors, stand to benefit from a bankruptcy proceeding. The debtor gets a reprieve for debts gone stale while the creditors get reimbursed when disposable assets are liquidated. Below are five key things to know if your business plans on filing for bankruptcy.
1. Re-Organization and Liquidation
A business, especially a limited liability, has two main liquidation options. These options are chapter 11 and Chapter 7 of the bankruptcy act. Under chapter 7, a business ceases all operations and is completely rendered out of business. A court-appointed trustee oversees the liquidation of the company’s assets, with the money being used to settle the debt. Debt repayment starts with investors who took the least risk in your business.
Creditors who have issued collateral-backed credit are paid first upon declaration of bankruptcy and are mainly banks. Bondholders come next as their investment is essentially debt which the company had promised to pay back in terms of interest and the issued principal within a contractual agreement. Suppliers, bondholders, and banks that issue unsecured loans are referred to as unsecured creditors.
Stockholders come last in the pecking order. While they stand to gain a lot when the company performs well, they are likely to suffer losses when a company goes under. Stockholders own the company hence the reason they are paid last. On the other hand, a company that is seeking to re-organize its operations and steady the ship should declare bankruptcy under chapter 11. Management continues to handle the daily affairs of the business, but major decisions are usually approved by a bankruptcy court.
2. Legal Fees
Business owners seeking to liquidate or re-organize may wonder who pays for bankruptcies? More often than not, it is the individual filing a petition on behalf of a business who shoulders the responsibility. However, this is not always the case. A sole proprietor, for instance, may be unable to raise filing fees that facilitate the bankruptcy case. An insolvency trustee comes in handy in ensuring that these fees are waived. The court has to clearly determine that a person cannot pay related fees, even after filing the case and when outstanding debt doesn’t have to be paid. In such a scenario, the court absorbs filing fees, and the person petitioning the court receives all services to ensure that the process proceeds smoothly and the case is completed successfully.
3. Company’s Stock
When your limited liability files for bankruptcy under chapter 11, the company’s securities will still trade even after the declaration of bankruptcy. While your business may not meet the listing standards of major stock exchange markets such as the New York Stock Exchange or NASDAQ, its shares could continue trading on platforms such as Pink Sheets. There is no law or provision in place that exempts companies that have filed for bankruptcy from trading their securities. In most cases, equity shares already in existence are canceled out in a bid to re-organize or may suffer significant dilution.
4. Preference Payments
It may be tempting to repay a relative or a close friend money owed to them before filing for bankruptcy. However, this can have negative consequences. The appointed trustee will thoroughly evaluate all payments made during the year preceding the filing. If the trustee determines that you made a preference payment to a creditor, the money will be divided in equal proportion among the rest of the creditors, and if the associate or relative is unable to repay money issued, they can be sued by the trustee.
5. Avoid Borrowing from Family or Friends
Unless your friends or family are willing to lose money borrowed, this is often a bad idea to ask for money from them to repay business loans but eventually file for bankruptcy. The court holds that money borrowed from relatives or friends is a gift, hence even in the case of liquidation and asset disposal, they won’t be paid back.
Having a clear understanding of what entails bankruptcy proceedings is paramount before proceeding to court. It will definitely save you from making poor or rushed decisions. Bankruptcy does not necessarily imply that you have hit a wall. Many businesses bounce back even stronger after taking time to re-evaluate upon provision of some reprieve.
