Business insolvency means that a business has more debts (more liabilities) than its assets. A business is distressed if it cannot generate enough revenue to cover its operating costs. If your business is insolvent, distressed, or both, you may be considering options for liquidation of your business. There are two (2) main business liquidation options that you may want to first consider for business insolvency: (1) a Chapter 7 bankruptcy in federal bankruptcy court; and (2) an assignment for the benefit of creditors in state court.
Chapter 7 Bankruptcy Liquidation in Federal Bankruptcy Court for Business Insolvency
A Chapter 7 bankruptcy for business insolvency means that someone else steps in to liquidate your business’s assets. That person is called a Chapter 7 trustee. Liquidation of your business’s assets means the sale or auction of those assets by brokers and auctioneers appointed by the trustee. The trustee is compensated for that work in the form of 10% commissions on assets liquidated, as well as legal fees and costs that may be awarded to the trustee’s law firm.
If you decide to file a Chapter 7 bankruptcy for your business, you are immediately handing over the “keys” to the business to the trustee. Resolving business insolvency by way of Chapter 7 bankruptcy means that you cannot continue to operate the business. There is no discharge granted to a business in a Chapter 7 bankruptcy. Exemptions, which are used by people to protect certain assets through bankruptcy, don’t apply in a business bankruptcy. This means that all assets of your business will be under the control of the trustee, who has complete authority to sell the entire business, in whole or in parts.
If the trustee realizes any value from your business’s assets, the first things paid out of that value are the trustee’s commissions and the other administrative expenses awarded to the trustee’s law firm and any other court-authorized professionals such as accountants, auctioneers, brokers, and the like. If any value remains after all administrative creditors have been paid, then your business’s creditors may receive a disbursement. However, in most Chapter 7 business insolvency cases, creditors will receive substantially less than full payment, if they are paid at all through the liquidation process.
To this last point, if you are personally liable on your business’s debts with your business, a Chapter 7 bankruptcy liquidation is unlikely to reduce your obligations to those creditors. You and your business are completely different “people” as far as the bankruptcy court is concerned, and a bankruptcy for your business is not the same as a bankruptcy for you individually. This means that liquidation of your business only reduces your personal liability to your business-related creditors to the extent those creditors receive a distribution from the liquidation of your business’s assets. The administrative fees that your business will incur in its Chapter 7 bankruptcy liquidation is likely to reduce those distributions. In turn, that reduces the chances that your personal liability will be positively impacted by the liquidation.
If your business is insolvent, distressed, and if Chapter 7 bankruptcy liquidation is unlikely to realize any distribution to your business’s creditors, then you may want to first and foremost consider personal bankruptcy when trying to resolve business insolvency. Especially for those owners of closely-held corporations and single-member LLCs, the business’s debts are usually the joint obligation of the owner and the business. In these instances, consideration must be given to the cost of liquidating the business in Chapter 7 bankruptcy. The fees and costs associated with business liquidation may be better used in a liquidation or reorganization bankruptcy for the business’s owner.
Assignment for the Benefit of Creditors Business Liquidation in State Court
An alternative to Chapter 7 bankruptcy for business insolvency is a state-law base assignment for the benefit of creditors (ABC). This is a liquidation proceeding that is, in many instances, the most cost-effective and effective for most businesses. An ABC is especially superior to a Chapter 7 bankruptcy when (1) there are certain business operations and/or assets that need to be immediately sold to third parties or even an insider and (2) where there is a need or desire for a much less publicized process of liquidation.
The availability of ABCs vary from state to state, but in New Jersey, ABCs are routinely used to liquidate businesses. An ABC is initiated by the distressed business (called the “assignor”) executing paperwork that legally transfers the business and its assets to a fiduciary (called the “assignee”). Unlike in a Chapter 7 bankruptcy, the business actually chooses the person who will serve as the assignee. Moreover, unlike in a Chapter 7 bankruptcy, the assignee may permit the business to continue to operate under the supervision of the assignee for a short period of time.
Just like in a Chapter 7 bankruptcy, the assignee receives the business, sight unseen, and liquidates any and all property, and distributes any value to the assignor’s creditors. However, it is not unusual for the assignee to allow the business owners to propose a sale of the ongoing business operations, or some or all of the business assets, to the business’ current owners. Through a fully-transparent process, and with court supervision and approval, the assignee may obtain a court order approving the sale of a business and/or its assets, and even to the business’ owners if they’ve presented the best and highest offer. In contrast to federal bankruptcy for business insolvency, there are far less fees, costs and expenses related to the administration of an ABC estate due, which reduces the burden on all parties involved in the ABC, and increases the chances that the value of the ABC estate will be maximized for the benefit of creditors. An ABC may also be preferable to bankruptcy simply due to the fact that the business did not “file bankruptcy”. The negative stigma associated with bankruptcy may have a negative effect on the value of any business that files bankruptcy. Compare this with the much-reduced stigma of an ABC, which is not generally known to the general public or even within the business world.
In summary, an ABC is a viable alternative to the formal liquidation process of a Chapter 7 bankruptcy. ABCs can be preferable to Chapter 7 because they offer the opportunity to quickly move a distressed business into a simplified liquidation process, with court approval, and overseen by a third-party fiduciary who is chosen by the distressed company. This put the distressed company in more control over the process of its liquidation. This has the effect of avoiding the delay and uncertainty of formal federal bankruptcy cases, while offering the same benefits of a Chapter 7 liquidation bankruptcy case, and even some of the control of a debtor-in-possession would maintain in a Chapter 11 reorganization bankruptcy case.
Navigating Business Insolvency with Middlebrooks Shapiro
Deciding between Chapter 7 bankruptcy and an ABC for business insolvency can be challenging without proper guidance. The team at Middlebrooks Shapiro is here to help. Our attorneys have years of experience in business bankruptcy, Chapter 7 business bankruptcy, and Assignment for the Benefit of Creditors. If your business is insolvent, distressed, or both, book a free, no-obligation consultation with our team and we can help provide sound advice on the best way to move forward for you and your business.