How to navigate bankruptcy if the coronavirus wrecks your business

For small businesses struggling to survive during the coronavirus crisis, bankruptcy may end up beckoning.

While overall filings were down in April, the number of businesses that filed Chapter 11 bankruptcy — which involves reorganizing debt and remaining in operation — jumped 26% from a year earlier. And according to some experts, it won't be too long before the floodgates open to expose a glut of small firms seeking relief.

"All I'm doing all day long is fielding calls from businesses with anywhere from $25 million in revenue down to $50,000 and operating out of their house," said Charles Bullock, a bankruptcy attorney and a founder of Stevenson & Bullock in Southfield, Michigan.

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"They aren't ready to file now, they're trying to make it through shutdowns and stabilize their business before they attempt to reorganize it [in bankruptcy]," Bullock said.

In the first three months of this year, there were 5,952 business bankruptcy filings overall, up 6% from 5,614 in the same period in 2019, according to the American Bankruptcy Institute. In April, although combined filings (individual and commercial) dropped by a whopping 46%, experts say temporary factors caused it: economic stimulus money aiding both small businesses and individuals, as well as a pause in bankruptcy-spurring actions such as evictions, foreclosures and creditor collections.

Of course, that patience for non-payment won't last forever. Experts expect business bankruptcy filings to rise in late summer, after loans from the Paycheck Protection Program run out and expanded unemployment benefits end (scheduled for July 31).

"Everyone I've spoken with is simply waiting until this period abates," said Richardo Kilpatrick, managing partner at Kilpatrick & Associates in Auburn Hills, Michigan. "The pipeline is full."

While bankruptcy is not the only option for a struggling business — a firm could just dissolve due to little or no debt and few assets, for instance — those with obligations that become unmanageable may discover bankruptcy is the best way to move forward. 

First, if you expect your business to remain viable in the long-term but need relief from creditors now, a new option under Chapter 11 may be appropriate. This route allows a firm to remain operational and, generally speaking, renegotiate its debt and repay over a set amount of time, as well as take other steps to return to profitability.

Called Subchapter 5, this new route — it took effect in February — is for businesses with debt below a certain threshold (with some limitations). From now through next March, that cap is about $7.5 million. (Recently passed legislation raised it from $2.7 million for one year.)

This option is intended to make the bankruptcy process faster and less expensive for small businesses. It eliminates some costs and paperwork requirements, as well as allowing owners to retain their interest in the business, among other differences from typical Chapter 11 cases.

Nevertheless, a Subchapter 5 filing still comes with a hefty price tag: about $10,000 to $50,000, depending on the complexity of the case, said Stuart Gold, managing partner at Gold, Lange & Majoros in Southfield, Michigan. The filing fee itself is $1,717.

Before you get to the point of filing, however, you should consult with a bankruptcy professional to make sure it makes sense. 

"You want to make sure you have a viable business that can survive and is in need of relief to warrant the fees," Gold said.

Meanwhile, a Chapter 7 bankruptcy involves a trustee liquidating the filer's assets and paying off creditors to the extent possible. While this is a common route for individuals, it may not be suitable for a business entity because it won't erase the firm's debt, said Cara O'Neill, a legal editor for Nolo.com and bankruptcy and litigation attorney in Roseville, California.

"Most business owners are concerned primarily with getting out from under their liability for business debt, and that's better done using a personal Chapter 7 or Chapter 13 filing," O'Neill said.

Even if your business is its own legal entity and kept separate from your personal finances, owners who provided a personal guarantee on their business debt are still on the hook even if the company goes into bankruptcy.

In that case, the way to potentially avoid your personal assets being seized — i.e., your house, car, savings, etc. — is to also file for personal bankruptcy. 

"That happens all the time," said Bullock, of Stevenson & Bullock.

"It could be a medium-sized business where the ownership group has been forced to guarantee debt, or an individual owner where the debt is overwhelming," Bullock said. "We'll see both the individual and the corporation file bankruptcy to get a fresh start or [stop] collection of any debt."

Most individuals file under either Chapter 7 or 13, which have filing fees of a few hundred dollars, and enlisting an attorney can add $1,200 to about $3,500, depending on where you live and the complexity of your case.

Both methods stop collection activity like calls from creditors or debt collectors, wage garnishments and, potentially, lawsuits from creditors. (Court judgments already in place are trickier to get rid of in bankruptcy, as are some other types of debt including student loans.)

However, there are differences in who qualifies and how debt is treated in each option. Chapter 7 generally is for people who lack enough income to repay their debt and have little in the way of assets. It also is the most common way to file individual bankruptcy.

This approach quickly erases many forms of debt, including from credit cards, medical bills, personal loans and, potentially, those personal guarantees. It does not, however, necessarily stop your car from being repossessed or prevent home foreclosure.

Chapter 13 generally gives you three to five years to pay back certain debt and keep the asset (i.e., house or car). It also prevents creditors from garnishing your wages or putting a levy on your bank account. For this filing option, you must have income, and your debt (both secured and unsecured) must be below a certain amount (about $1.6 million total).

For individuals with debt above that threshold, Chapter 11 might be the best choice. This is the least commonly used option for individuals.

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