Business bankruptcy
Business bankruptcy refers to a state of affairs where a business's liabilities are more than its assets and hence it is unable to fulfill its financial commitments. Practically any kind of business entity can initiate bankruptcy proceedings by filing a petition in a bankruptcy court. A business can also be forced into bankruptcy if creditors start bankruptcy proceedings against it. This may happen if creditors feel that a debtor is recklessly wasting or embezzling assets that should rightfully go towards settling what is due to them.
Filing for bankruptcy
A business should file for bankruptcy only after exploring all avenues.
If a business is in a tight spot regarding its financial obligations and there is absolutely no way out; if it faces imminent shut down and its future prospects are bleak; and there no significant assets to speak of, then a business may file a bankruptcy petition. The business should however seek financial and legal advice before opting for such a measure.
Effect of a bankruptcy petition
The filing of a bankruptcy petition sets off a legal course of action whereby the debtor seeks relief and the creditors contest such an action.
The direct outcome of filing a bankruptcy petition is that it produces an "automatic stay", which is a strong warning to creditors preventing them from pursuing any further course of action to collect their dues till the bankruptcy court decides otherwise. The objective of such a stay is to grant debtors a brief respite from their monetary tribulations, providing them an opportunity to work out how best to handle the debts. The automatic stay is granted on a temporary basis and the creditor has several options available to obtain relief from the stay.
Bankruptcy Proceedings - Liquidation Vs Reorganization
Bankruptcy proceedings are basically of two types , Liquidation and Reorganization. A filing under Chapter 7 liquidation proceeding is commonly resorted to which permits a business to close down operations in a systematic way and to help resolve its debts. The creditors? claims are addressed by the Bankruptcy Court, which stays all grievances.
In a liquidation proceeding, a Trustee is appointed who assumes charge of the debtor's assets. He singles out assets not covered by the bankruptcy proceeding and those that need to be disposed off to settle creditor claims. The Trustee auctions off the assets and pays off the creditors according to the right of precedence as laid down by the bankruptcy regulations. Secured creditors, such as banks, come ahead of unsecured creditors, such as suppliers.
Unsecured creditors with seniority clauses are given priority over others. After the claims of the secured and unsecured creditors are fully settled the stockholders may receive their due if anything is left over.
Chapter 7 of the bankruptcy law covers all business entities. If the business is a sole proprietorship, it is has the right to a discharge and debtors may be released from their unsecured debts within six months of filing the petition and have an opportunity for a fresh start. However, corporations and other business entities have no such discharge rights. A business facing financial difficulties may attempt to sort out its outstanding debts and remain in business. Partnerships and corporations can file a Chapter 11 reorganization proceeding.
Once a business files a Chapter 11 proceeding, it becomes a debtor-in-possession. It is then allowed an opportunity to draw up a reorganization plan that needs to be ratified by the creditors. If the creditors give their acceptance and the court validates it both parties are obliged to adhere to the plan?s settlement terms. In accordance with the plan, the debtor can lessen the debt burden by paying off a part of the liabilities and clearing off others. In addition, it can stop unfavourable leases and imprudent agreements and reallot resources to return to profitable ways.
Under this chapter, a business braces up to meet the challenge and emerges with a shrunk debt burden and a restructured concern. It is a means of re-establishing the business. Management carries on business activities but all major decisions need to be ratified by a bankruptcy court. A company's stocks and bonds may continue to trade even after filing Chapter 11.
Under Chapter 11 proceeding, a Trustee is also appointed to safeguard the interests of creditors.
Plans may require settlement arising from future earnings, disposing off assets, entering into a merger or going in for recapitalization. A reorganization plan must arrange for paying creditors no less than what they would have received under a Chapter 7 liquidation proceeding.
If the reorganization plan fails then the business is liquidated.
Discharge of debts
Usually the following debts cannot be discharged :
Debts acquired after filing a bankruptcy petition
Debts not listed or which the debtor has not claimed discharge
Debts for taxes payable to local, state, or federal agencies
Debts payable for deliberate and spiteful injury caused by the debtor to another individual or to property belonging to another
Debts for educational loans sponsored by the government
Debts contracted due to alimony or maintenance
Debts for property, money, or services, which was acquired dishonestly
Debts for causing death or personal injury due to the debtor's inebriated driving or from driving under the influence of drugs
Noncompliance with bankruptcy rules
Failure to act in accordance with bankruptcy rules or making any kind of false or misleading statements by the debtor to the court may result in the court turning down a discharge. On the other hand, a court may just reject a bankruptcy petition, withdrawing all security to the debtor under the bankruptcy laws. A debtor could then be put on trial. Creditors can also face similar actions if, for instance, they conspire with the debtor to conceal assets. Bankruptcy is inevitable to a business thats going bust. However, legal counseling is a must to get a business back on its feet.
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