In the event that a small business has significant amount of debts which cannot be repaid, a Chapter 7 bankruptcy allows the owner to reorganize his/her debts in order to salvage the business, wipe out owner’s personal liability with respect to business debts, or in extreme cases, to liquidate the business. A business has several choices, depending on the desired outcome to deal with unpaid debts. The business owner can file for a business bankruptcy which may end up shutting the business down and/or file for a personal bankruptcy which will protect the business owner’s personal assets.
A business Chapter 7 bankruptcy will shut down and liquidate a business. There is no discharge or any use of exemptions to a bankrupt business. When a small business files a bankruptcy in Chapter 7, the bankruptcy trustee sells the assets of the business and disburses its creditors. Generally, it is a better option for small business owners who wish to shutdown a business and do not want to cope with selling real property and negotiating with creditors. However, it is important to notice that Chapter 7 business bankruptcy will not eliminate a small business owner’s personal obligations on any business debts.
In the case of a sole proprietorship business, there is no separate legal entity, and as such, a Chapter 7 bankruptcy cannot be filed by the sole proprietorship. All business assets and debts of a small proprietary concern belong to the individual business owner and the sole proprietor can file a personal bankruptcy to dispose its business debts. Here, Chapter 7 enables a sole proprietor to wipe out both personal and business debts by using exemptions to protect business assets. This means that the owner of a sole proprietorship can continue the operations of the business even after bankruptcy.
However, in the case of a LLC or corporation, the business owner cannot wipe out the debts of the LLC or corporation by simply filing for a personal bankruptcy, as the LLC and/or corporation has a separate legal existence than the individual. The business owner needs to file for bankruptcy on his own behalf to protect his/her personal assets from the reach of creditors, notwithstanding whether or not the business has also filed for bankruptcy.