In a prior post, I talked about operating a business as a proprietorship and how your personal bankruptcy may affect your business. Suppose you operate your business as a corporation, how will your personal bankruptcy case affect your business?
First, as I had indicated previously, a corporation is a completely separate legal entity. It owns property in its own name and owes debts in its own name. In fact, that is one of the main reasons people choose to operate a business as a corporation–limited liability for its shareholders.
So, you must make a distinction between your personal debts and the corporation’s debts. Also, you must make a distinction between your personal assets/property and the property that belongs to the corporation. I’ve found that usually means a vehicle that is titled in the corporate name but the business “owner” or sole shareholder drives the vehicle all the time. Of course, there may be many others.
With regards to the corporate debts, as long as you have respected the corporate form so that creditors do not have grounds to “pierce the corporate veil,” you are not liable for the debts of the corporation unless you have personally guaranteed those debts. Unfortunately, in many instances, creditors often require the principals of a small corporation to personally guarantee debts. Assuming that no corporate debts have been personally guaranteed, you do not need to list corporate debts on your bankruptcy petition. They are not your debts after all.
But, as a shareholder, you own the shares of the corporation and those shares may have value. If your business is continuing to operate, you will need to value those shares. A business can be valued in different ways and business valuation is certainly beyond the scope of this post but a business can be simply valued as assets minus liabilities so that any net equity is divided among the shareholders–a simple balance sheet approach.
A business can be valued as an on-going concern meaning that as the business continues to operate, it is generally profitable. Or, the business may have a particular asset that has value such as a parcel of real estate.
If the business has value, the bankruptcy trustee can seek to “liquidate” that value by taking over the shares and attempting to sell them. For many small businesses, this usually is not an option because the sole shareholder is the main reason the business continues to run. If the sole shareholder quits or no longer has any incentive to continue in the business, the business typically has very little life left. But, the essential point is that the shares or stock of the corporation can have value to a bankruptcy trustee.
However, in most instances, if the sole shareholder is having to file personal bankruptcy, often the precipitating cause is that the business is struggling, too. If so, often the corporation will often file bankruptcy and liquidate the assets. Most times, the shareholder(s) will often file personal bankruptcy as well because, generally, a significant portion of the corporate debt is personally guaranteed.
If the corporate debts are personally guaranteed, upon your filing for an individual bankruptcy filing, most creditors will seek to collect as much as possible from the corporation unless the corporation can continue to pay its obligations as they come due.
While it is possible to continue to operate a small business corporation in the face of a personal bankruptcy filing, as a practical matter, if often does not happen that way. But, if you find yourself in that situation, it is important to remember the distinctions between personal debt/corporate debt and personal assets and corporate assets
Adrian Lapas, Esq.
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Last modified: October 22, 2012