Filing Bankruptcy in Colorado
Small Business Bankruptcy
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What is Bankruptcy?
Bankruptcy is a legal proceeding involving a person or business unable to repay outstanding debts. The bankruptcy process begins either with a petition filed by the debtor (which is more common) or on behalf of creditors (which is less common).
All of the debtor's assets are measured and evaluated, all of the debtor’s liabilities are tallied, and, in a liquidating bankruptcy, the assets are typically used to repay a portion of the debtor’s outstanding debt based on the priorities set forth in applicable law. In a non-liquidating bankruptcy, the cash flow from the debtor’s operations, whether as a company or as a wage earner, is used to pay the debtor’s obligations over time.
The information below is intended to be a very general summary of these laws that apply to bankruptcy. The facts of each financial situation will differ, and will significantly influence the appeal and applicability of the alternatives below. It is very important to seek competent legal counsel with the right expertise to assist in evaluating those alternatives and deciding on a plan of action.
Is Bankruptcy Determined By Federal or Colorado Law?
Federal procedural law applies – specifically, the U.S. Bankruptcy Code (Code). Bankruptcy proceedings are handled in specialized federal courts with judges who only handle bankruptcy and bankruptcy related matters. The property rights and interests that are administered in the bankruptcy proceedings are determined under applicable state law. There are many different types of bankruptcy, commonly referred to by their chapters in the Code.
Below is a brief summary of some the most common alternatives for “companies” (which includes partnerships, corporations, and LLCs; but does not include sole proprietorships) and for “individuals” (including sole proprietorships). A sole proprietorship is a business that is owned and operated by one person and is legally indistinguishable from its owner. As a result, the owner of a sole proprietorship is personally liable for the debts of the business. Because many small businesses are sole proprietorships, this summary touches on many aspects of individual bankruptcy as well. One issue worth mentioning up front is that with all bankruptcies, by law, an automatic stay immediately goes into effect, stopping any effort by creditors to pursue litigation against the debtor, recover assets from the debtor (or garnish wages) or otherwise execute on judgments that may have already been obtained.
Which Bankruptcy Alternatives Typically Apply to Colorado Small Businesses?
What is a Chapter 7 Liquidation?
Chapter 7 Bankruptcy in Colorado
“Chapter 7” is a bankruptcy that conforms with Chapter 7 of the Code. Chapter 7 is available to both companies and individuals, but there are some important differences in how Chapter 7 works for each group.
For an individual to be eligible to file for Chapter 7 bankruptcy, the individual must demonstrate “limited financial means” such that Chapter 7 is available. If Chapter 7 is not available, Chapter 13 (discussed below) might be an alternative.
The assets (subject to certain exclusions) are placed into a bankruptcy estate which is administered by a Chapter 7 trustee (the “bankruptcy trustee”) who is appointed from a panel of available trustees by the court. As noted above, the Chapter 7 filing automatically triggers the automatic stay As long as the stay is in effect, creditors generally may not initiate or continue lawsuits, wage garnishments, or even telephone calls demanding payments.
The bankruptcy trustee is responsible for managing creditor claims and distributing assets -- or proceeds from the sale of non-excluded assets -- from the bankruptcy estate to creditors holding allowed claims pursuant to an order of priority outlined in the Code. In a corporate liquidation (whether in a Chapter 7 or through a Chapter 11 liquidating plan), the company does not receive a “discharge” in a unless the allowed claims are paid in full. An individual, however, (with certain exceptions) will receive a discharge of claims in the Chapter 7 proceeding even when allowed claims are left unpaid or only partially paid, thus enabling the person to obtain a “fresh start.”
When a company files for Chapter 7 bankruptcy, its directors and officers no longer have decision-making authority over the company and the bankruptcy trustee immediately takes over control of the company and its assets. The bankruptcy trustee represents the company, and in that role has legal “standing” to pursue claims on behalf of the company, including legal claims for breach of fiduciary duty against the company's directors and officers.
One of the primary purposes of bankruptcy is to discharge certain debts to give an honest debtor a "fresh start." The debtor has no liability for discharged debts. Under Chapter 7, however, as noted above, a discharge is only available to individual debtors, not to partnerships, LLCs, or corporations. Although an individual Chapter 7 case usually results in a discharge of debts for individual debtors, the right to a discharge is not absolute, and some types of debts are not discharged for claims that generally involve fraud, dishonesty, hiding assets or certain other bad acts by the debtor. Also, a bankruptcy discharge does not extinguish a lien on property and the secured creditor remains able to recover as against the property but not the individual.
These considerations illustrate other reasons why Chapter 13 might be an attractive alternative to Chapter 7 for individuals with sole proprietorships, such as wanting to make up missed mortgage or car payments; addressing payments on non-dischargeable debts; needing more time to make repayments; and other considerations. A Chapter 13 is sometimes called a “wage earner plan” and it enables the Chapter 13 debtor to dedicate a portion of its disposable income to pay claims against the debtor over time. A person without a steady income is not eligible to file a Chapter 13 bankruptcy.
What is a Chapter 11 Reorganization?
Chapter 11 Bankruptcy in Colorado
“Chapter 11” is a bankruptcy that conforms with Chapter 11 of the Code. Generally, small business might find Chapter 11 expensive, risky, time consuming, and complex. Except as noted with Subchapter V below, Chapter 11 is the only bankruptcy option for a small business seeking to restructure and continue in operation if it is a company. Chapter 11 is also the only bankruptcy option for individuals who want to reorganize but owe too much money to meet the Chapter 13 eligibility requirements (see below).
Unlike a Chapter 7 liquidation, the purpose of a Chapter 11 bankruptcy is to reorganize the business's debts such that the business will be able to continue operations.
A Chapter 11 case begins with the filing of a petition with the bankruptcy court serving the area where the debtor is incorporated, has its principal place of business or the majority of its assets. A petition may be a voluntary petition, which is filed by the debtor, or it may be an involuntary petition, which is filed by unsecured creditors that meet certain requirements. There are specific forms and documents that need to be included as part of the petition.
What is a Chapter 13 Adjustment?
Chapter 13 Bankruptcy in Colorado
A Colorado Chapter 13 bankruptcy enables individuals with regular income to develop a plan to adjust their financial position by repaying all or part of their debts. Under this chapter, debtors propose a repayment plan to make installments to creditors over three to five years. If the debtor's current monthly income is less than the applicable state median, the plan will be for three years unless the court approves a longer period "for cause." If the debtor's current monthly income is greater than the applicable state median, the plan generally must be for five years. In no case may a plan provide for payments over a period longer than five years. During this time, the law forbids creditors from starting or continuing collection efforts. A Chapter 13 bankruptcy is also sometimes called a “wage earner's plan.”
Subject to certain exceptions, any individual, even if self-employed or operating an unincorporated business, who has income is eligible for Chapter 13 relief as long as the individual's unsecured debts are less than $394,725 and secured debts are less than $1,184,200. For individuals with debt above that threshold, Chapter 11 might be an option. Chapter 11 is the least commonly used option for individuals.
Partnerships, corporations, and LLCs cannot use Chapter 13. An individual who is a sole proprietor can file a personal Chapter 13 bankruptcy petition to reorganize both personal and business debts.
A Chapter 13 trustee is appointed and an automatic stay is issued in the Chapter 13. However, unlike the Chapter 7 trustee who takes over control of the debtor’s non-exempt assets, the Chapter 13 trustee does not take over control of the debtor’s assets but rather administers the Chapter 13 proceeding. Chapter 13 also contains a special automatic stay provision that protects co-debtors. Unless the bankruptcy court authorizes otherwise, a creditor may not seek to collect a "consumer debt" from any individual who is liable along with the debtor (a co-debtor). Consumer debts are those incurred by an individual primarily for a personal, family, or household purpose. Individuals may also seek to use a Chapter 13 proceeding to save their home from foreclosure. The automatic stay stops the foreclosure proceeding as soon as the individual files the Chapter 13 petition. The individual may then bring the past-due payments current over a reasonable period of time. Nevertheless, the debtor may still lose the home if the mortgage company completes the foreclosure sale under state law before the debtor files the petition. The debtor may also lose the home if he or she fails to make the regular mortgage payments that come due after the Chapter 13 filing.
As in Chapter 11, the negotiations between the debtor and the creditors ensue, under the eyes of the trustee and the court, hopefully leading to a confirmed payment plan between the parties and the Chapter 13 trustee. The provisions of a confirmed plan bind the debtor and each creditor. Once the court confirms the plan, the debtor must make regular payments to the trustee, typically biweekly or monthly, either directly or through payroll deduction, which will require adjustment to living on a fixed budget for a prolonged period. Furthermore, while confirmation of the plan entitles the debtor to retain property as long as payments are made, the debtor may not incur new debt without consulting the Chapter 13 trustee, because additional debt may compromise the debtor's ability to complete the plan.
If the debtor fails to make the payments due under the confirmed plan, the court may dismiss the case or convert it to a Chapter 7 liquidation case. The court may also dismiss or convert the debtor's case if the debtor fails to pay any post-filing domestic support obligations (i.e., child support, alimony), or fails to make required tax filings during the case
A Chapter 13 debtor is entitled to a discharge of the debts covered by the plan upon completion of all payments under the Chapter 13 plan so long as certain other criteria are met. Certain debts are not eligible to be subject to the plan and would not be dischargeable. This topic of discharged obligations is extremely complex under Chapter 13.
As mentioned above, Chapter 13 might be an attractive alternative to Chapter 7 for individuals, such as those individuals wanting to make up missed mortgage or car payments; addressing payments on non-dischargeable debts; needing more time to make repayments; and other considerations. Chapter 13 may also be an attractive to Chapter 7 for sole proprietorships because it allows the business to remain in operation, rather than having to liquidate.
What Other Options Should I Be Considering?
Depending on your situation, you might be able to:
negotiate with your creditors as part of a workout plan,
assign your business to your creditors (known as an “ABC” and governed by state laws),
debt counseling,
or other solutions.
Evaluating the pros and cons of bankruptcy is part of thinking through alternatives to resolve the financial situation, and not the only alternative.
Will a Bankruptcy in Colorado By Me or My Company Affect My Credit?
Bankruptcy can allow individuals and companies to resolve unpaid debts, but it will stay on individual credit reports for a number of years and could make it difficult for individuals and companies to borrow in the future.
What Should Be My Next Steps?
Bankruptcy is a very complicated and nuanced area of law and requires special legal expertise to take full advantage of the remedies that may be available. Consider seeking out and hiring competent legal counsel to guide through the alternatives that are available to you and your business.