Bankruptcy refers to the legal process in which a person’s debts are discharged. What this means is that the debtor is no longer held liable for the repayment of specific debts, and their creditors may no longer collect or attempt to collect what they are owed.
To put it simply, bankruptcy is a federal court process which is designed to help consumers and businesses eliminate or repay debts under the protection of the bankruptcy court.
There are essentially two categories of bankruptcy available to businesses:
- Liquidation Bankruptcy: This is known as a Chapter 7 bankruptcy, and is a type of consumer bankruptcy. A consumer or business petitions the court to discharge the debts owed, although some debts cannot be discharged. In exchange, the business’s assets or the consumer’s property is liquidated, and the proceeds are used to repay the creditors; and
- Reorganization Bankruptcy: This is known as a Chapter 11 bankruptcy, and is a type of business bankruptcy. The process involves filing a plan with the bankruptcy court which suggests how you will repay your debt. Some debts must be repaid in full, while others require only a percentage, or even nothing at all.
Once bankruptcy proceedings are initiated, whether through Chapter 7 or Chapter 11, creditors cannot attempt to collect debt from the business until the bankruptcy process has ended.
Small business owners who are struggling with a lot of debt may find relief through Chapter 7 bankruptcy. This is because this specific chapter can eliminate most or all of the debts that they are liable for. Sole proprietors, or businesses considered to be a general partnership, are personally liable for the business’s debts. They may also be able to file a Chapter 7 in order to eliminate most or all of their debt. Otherwise, they will need to consider filing for a Chapter 11 bankruptcy.
What Is a Chapter 11 Bankruptcy?
Chapter 11 is a type of reorganization bankruptcy, and is available to individuals, corporations, and partnerships. There are no limits on the amount of debt and is the typical bankruptcy choice for large businesses who are seeking to restructure their debt in order to become profitable again. Chapter 11 is considered to be the most flexible of all the bankruptcy chapters. This is what makes it generally more expensive to the debtor. It is important to note that the rate of successful reorganizations is generally very low.
Chapter 11 bankruptcy allows the debtor business to reorganize its finances in order to eventually pay off its debts, and continue operating once the bankruptcy process is complete. The process is initiated when the business files a petition for Chapter 11 with the bankruptcy court. They are then given 120 days to create a plan to reorganize the business in a profitable way.
In order to make the business profitable again, the plan could involve cutting off certain unprofitable parts of the business. An example of this would be discontinuing an advertising or research department. The restructure plan must also provide details regarding how the business will pay off its creditors in the future. This plan must be approved by the creditors. Management may continue to run the business, but the bankruptcy court must approve of all significant business decisions.
How Is a Chapter 11 Bankruptcy Different From Other Chapters of Bankruptcy?
Chapter 11 bankruptcy can be most efficient compared to Chapter 7 bankruptcy. As such, it is helpful to understand how Chapter 7 works in order to determine how the two chapters differ and are similar.
Chapter 7 Bankruptcy is also known as “liquidation bankruptcy,” and allows an individual to discharge all debts that can be legally discharged. There are specific rules regarding who qualifies, how to file for Chapter 7 bankruptcy, and what type of debts can be discharged. The process involves the selling off (or “liquidation”) of a business’ property in order to pay off debts.
The Chapter 7 bankruptcy process begins when the business files a petition with the bankruptcy court. This petition must list all of the business’ property, debts, and recent financial history. The court then appoints a trustee who is responsible for selling off some of the business’ property, in order to help pay the business’ debts.
The trustee will discharge some debts, which means that the debts will not have to be paid. Other debts are not dischargeable, including but not limited to:
- Recent taxes;
- Debts in prior bankruptcy; and
- Penalties payable to the government.
Once all debts are settled, the business will most likely cease to exist. Chapter 7 bankruptcies tend to be more simple and quick than a Chapter 11 bankruptcy, and requires only one court visit to file the petition.
In comparison, if a business completes a Chapter 11 bankruptcy, it is more likely that the business will continue operating in some capacity. No property must be sold in order to repay their debt, and no trustee is necessary. However, Chapter 11 bankruptcy tends to be a much longer process when compared to a Chapter 7 bankruptcy. Additionally, the process is more complex, and all debts must eventually be paid.
What Steps Are Involved In Developing a Reorganization Plan? What Happens to Company Stock?
When developing a reorganization plan for a Chapter 11 bankruptcy, there are certain steps that the company must follow in order for the bankruptcy court to approve of their plan.
The company starts by developing a plan with different committees. These committees represent creditors, stockholders, and possibly others. From there, the company prepares a disclosure statement and reorganization plan. It is then filed with the bankruptcy court.
The Securities and Exchange Commission reviews the statement in order to ensure that it is complete. Creditors vote on the plan; if the vote passes, the bankruptcy court confirms the plan, and the company carries out the plan. A company’s stock may continue to trade even after the business has filed for Chapter 11 bankruptcy. Although a company may no longer be listed on a major stock exchange, their shares can still continue to trade.
Should the company come out of bankruptcy, there may be two different types of common stock. The first of which would be the old stock, which was on the market before the company filed for bankruptcy. The second type would be the new stock, which is issued as part of the company’s reorganization plan. To denote if the old common stock was traded, there will be a five-letter ticker symbol, ending in “Q.” This is intended to indicate the bankruptcy proceedings. The new common stock will have no such ticker.
Do I Need an Attorney for Chapter 11 Bankruptcy?
If you find yourself considering filing for bankruptcy, you should consult with an experienced local bankruptcy attorney before proceeding. An experienced bankruptcy attorney can help you consider which chapter of bankruptcy would best suit your needs, and can also help you determine whether any alternatives to bankruptcy may be available to you.
Because state laws regarding bankruptcy vary widely, a local bankruptcy attorney will be better suited to helping you understand your state’s specific laws and how those laws may affect your legal options moving forward. Additionally, should you file for Chapter 11 bankruptcy, your bankruptcy attorney can help you begin the process and create a legally sound and enforceable reorganization plan. Your attorney will also communicate with creditors on your behalf, and will represent you in court as needed.