Chapter 7 Can . . . Help You Close Your Business by Giving Your Bankruptcy Trustee the Headache of Selling Your Last Business Assets

Law Office of Robert L. Firth Aug. 29, 2016

Shut down your business without worrying about how to use your final resources and about how to deal with your competing creditors.

As the owner of struggling business you have the challenge of figuring out whether to close down the business. And once you have decided to do so, how and when should you do so?

In certain circumstances, filing a personal Chapter 7 “liquidation” bankruptcy while you still have some business assets can be a very sensible and even financially and emotionally liberating game plan. At first glance you might not think that it’s a good idea to “waste” any of the business’ final assets by giving them to a bankruptcy trustee. But let’s look at this more closely.

The Conventional Goal is a “No Asset” Chapter 7 Case

Most of the time when you file a bankruptcy case, a major goal is to preserve for yourself the assets that you have so that you can better transition to life afterwards. That’s the purpose of property “exemptions.” These are protections in the law covering certain categories of assets. These “exemptions” are intended to leave you with a sensible foundation of assets going forward.

Business assets are often protected, at least up to a certain value, by specific “tool of trade” exemptions, or by miscellaneous property exemptions

Our last blog post explained how to preserve your business assets for your own income-generating use after bankruptcy. The goal in that situation is to give nothing to the trustee because everything you own is covered by the “exemptions.” If so the trustee has nothing to “liquidate” on behalf of your creditors, and nothing to distribute to them. That’s called a “no-asset” Chapter 7 case.

Sometimes the Better Idea is an “Asset” Chapter 7 Case

So how could the opposite goal possibly make sense? Why would you want to have the trustee take away your asset(s) to distribute to your creditors? It makes sense when you have the following combination of circumstances:

1) You don’t need those business assets for your future, either as an employee or in some form of self-employment.

2) You don’t have the time or energy to sell the asset(s), and then figure out what creditor(s) should legally receive the proceeds while beating back the rest of them.

3) The debt(s) that you personally prefer to be paid are the ones that the law dictates that the Chapter 7 trustee must pay first.

Business Assets You Don’t Need or Are Not Worth the Trouble of Selling

Start by deciding whether the particular business assets you still have left will be of immediate value to you after bankruptcy. If you think so, get good legal advice about whether you would be able to preserve them from your creditors, and, if so, how to do so. This would include, among other things, reviewing the legal form of your business (sole proprietorship vs. corporation, etc.), the approximate dollar value of the assets, whether they are collateral on a secured debt, and whether a tool-of-trade or other exemption would cover the business asset.

If you do not need the assets not covered by an exemption, consider the potential benefits of just letting go of those assets to a Chapter 7 trustee so that you can refocus your energies on the future.

Let Your Trustee to Pay Your Special Creditors

Letting go of your unnecessary assets makes sense if most of the proceeds of the trustee’s sale of those assets would go to pay debts that you need or want to be paid anyway.

The Chapter 7 trustee is required by law to pay debts in a very specific order. It’s not unusual for that priority order to be consistent with your own preferences.

Before the trustee pays anything to any of your “general unsecured” debts (debts that you tend to care less about anyway), he or she must pay the “priority” debts IN FULL. Plus the trustee must pay those “priority” debts in the order specified in Section 507 the Bankruptcy Code.

Among debts that may be important for you to get paid in this “priority debt” list are the following, from highest to lower “priority”:

  • Child and spousal support arrearage

  • Wages, salaries, commissions, and employee benefits earned during the 180 days before filing or before the end of the business, up to $12,850

  • Contributions to employee benefit plans, with certain limitations

  • Income taxes under certain conditions, and certain other property, withholding, employment and excise taxes.

An Example

Here’s an example to show how this might work.

Assume the following:

  • you owned about $10,000 in marketable value of non-exempt business equipment

  • you owed:

    • $2,000 in child support arrearage that you knew you absolutely had to pay,

    • $3,000 in unpaid wages to your last employee who you felt morally obligated to pay, and

    • $4,000 for last year’s income tax to the IRS which would not be discharged (written off) in bankruptcy and so you would have to pay.

After filing the Chapter 7 case, you’d give the trustee the equipment and he or she would sell it. The trustee would then pay the above three special debts in the order stated, as far as the sale proceeds would go.

Assuming that the trustee sold the equipment for $10,000, there would be enough money to pay the child support, the employee wages, and your income taxes (totaling $9,000).

The trustee would also receive a specified percentage of the sale proceed for his or her fees—10% in this situation, or the remaining $1,000. See Section 326(a) of the Bankruptcy Code.

Be aware that the trustee would have control over the process, and you wouldn’t—such as how to market the equipment, its selling price, etc. But you would avoid the headaches of selling the equipment, the conflicting demands of your creditors, and the risks of being accused of paying the wrong debts. And best of all, at least in scenarios like this one, debts that you have a self-interest in getting paid would get paid.