By: Jeena Cho
Living in the Bay Area, I have many clients who are business owners. Oftentimes, these small businesses are heavily in debt and have little or no hope of survival unless it can shed its debts. What most small business owners do not realize is that bankruptcy may actually be a beginning rather then an end.
Let’s take two simple examples.
Example #1. You operate a business as a sole proprietorship. There is $20,000 of business assets and $150,000 of debts related to the business. In addition, the you have $50,000 of personal credit card debt.
Assuming the owner does not have significant amount of personal assets or other non-exempt assets, s/he can qualify for Chapter 7 bankruptcy regardless of his or her income. The business owner would qualify for Chapter 7 as a non-consumer case. The rule is that if more than 51% of your total debt was obtained for a non-consumer purpose (e.g., business purpose), you are not subject to the means test. This is particularly useful for those business owners who either has another high paying job or has a spouse with a high paying job.
As for the business assets, we would exempt those assets, hence being able to continue operation of the business after bankruptcy. Sometimes, it may be advantageous to incorporate the business as well.
Example #2. Let’s assume the same facts as above but that the business has a liquidation value of $60,000. In this situation, Chapter 13 may be an appropriate solution. In a Chapter 13, you would repay some of the debt. One of the common misconception about Chapter 13 is that you would have to repay all of your debt. Not true. The amount of your Chapter 13 is determined by the greater of the “liquidation analysis” or “disposable income.”
Liquidation analysis would be the portion of your assets that we could not exempt. In Example #2, the business owner would have to repay the unexempt portion of his business assets. The Wild Card exemption in California is approximately $23,000. Hence, leaving $37,000 of his business assets unprotected. That’s the amount which would have to be repaid in a Chapter 13 ($37,000/60 = $617/mo). (This is a very simplistic explanation because certain deductions are also made such as hypothetical trustee commission, cost of sale, taxes, etc.)
Disposable income test is a long calculation based on the Means Test where we take your gross income and make certain adjustments (e.g., taxes, medical expenses, health insurance, term life insurance, mortgage payments, etc.) At the end of the equation, whatever amount is left over would be paid to the Trustee for either 3 or 5 years.
In either Chapter 7 or a Chapter 13, at the conclusion of the case most of the debts (including credit card debts, SBA loans, and other business related debts) would be discharged, leaving you and the business free to continue to operate the business.
In the next article, I will address special consideration for businesses that are incorporated.
If you have a struggling small business, please call us for a consultation at (415) 963-4004.
Disclaimer: Unfortunately, it is impossible to give legal advice over the internet, no matter how well researched or written. Before relying on any information I give, contact a lawyer to discuss your particular situation. I am a San Francisco bankruptcy attorney. The information given is based on California law.