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The Bankruptcy Process Part III: The Process, Chapter 7

Chapter 7 Bankruptcy is a liquidation, meaning your available assets will be used to satisfy creditor claims. However, getting to that endpoint is not a straight line. The path is slightly different for individuals and businesses.

You submitted your schedules to the court, and now the automatic stay is in place. The next step is for the court to approve the appointment of a trustee to oversee the case. The trustee will interview you, review your schedules and ask questions of you regarding property and its location. They will then marshal the property and endeavor to convert it to cash for the benefit of your creditors. Businesses have some unique issues discussed below.

Individuals Filing for Chapter 7 Bankruptcy

Certain property exemptions apply to individuals. There is both a Federal and State bankruptcy schedule, and you can choose which best suits your circumstances. The most relevant assets are residence and retirement assets. The residence will be accorded a Homestead exemption, which varies by state, and the retirement funds are exempt from inclusion in the bankruptcy.

Asset cases– meaning there are likely to be assets for distribution to unsecured creditors, as secured creditors have their collateral– will be notified by the court to submit a proof of claim. The proof of claim document gives the creditor the ability to validate the amount owed by the debtor and to identify if the claim is designated a priority for payment. The amounts reported by creditors do not always align with the amounts in the schedules filed by the debtor. In this instance, a reconciliation process will occur, and the trustee will make adjustments. They will likely need your assistance in this process.

The trustee will also look for potential avoidance actions. I will take these up in detail in future articles, but they fall into two categories. The first is preference claims; these refer to distributions/payments made by the debtor within the 90 days before filing. The other type of avoidance action is fraudulent conveyances, which refers to transfers to insiders within two years of the filing of the petition. Note: This period can be extended based on State law. The solvency of the debtor is a key factor in the determination of a fraudulent transfer.

Businesses Filing for Chapter 7 Bankruptcy

Businesses, unlike individuals, need to be shut down– a process that is neither quick nor simple. While the trustee has complete control of the business, the former ownership and management of the debtor play a crucial role in this process. Additionally, the time table is accelerated because the landlord typically wants their space back as soon as possible.

For questions or further assistance, please contact a member of Withum’s Forensic and Valuation Services Group.

It is impossible to enumerate all the wind-down issues in a brief article; however, the following are at the top of the list.

  • Trust Fund Taxes
    • These carry personal responsibility of the former management. Assuring payroll and sales tax returns are filed and remittance of taxes collected and withheld is a critical step.
  • Personal Guarantees
    Not a concern of the trustee, the owner certainly has a vested interest in assuring these agreements are dealt with appropriately.
  • Pension Plans
    • These plans are another instance where there could be some personal responsibility, particularly if employee funds have not been remitted. The issues grow significantly more complicated if the pension is a Defined Benefit plan requiring the involvement of the PBGC, or if the company is paying into union pensions.
  • Accounting Systems
    • The trustee will need access to your technology and accounting system. The transfer of access, passwords and processes is critical.
  • Supporting Information for Assets
    • The trustee will look to collect on outstanding receivables and will need all of the relevant support. Similarly, for rolling stock, they will need access to lease agreements, titles and related ownership documents. Perpetual inventory records, identification of the items and locations. The list is potentially expansive depending on the industry, number of locations and complexity of the business operation.
  • Tax returns
    • Provide tax returns from at least the prior three years, all tax types. This would also include all recently completed or ongoing audits. Note that unfiled returns may not be the Trustee’s responsibility and may have implications to ownership.
  • Documentation Related to Disbursements and Transactions with Related Parties
    • Disbursements include invoices and bank records, credit card statements and other financial documents, likely for an extended period.

Regardless of the fact that you have filed for Chapter 7 and have “walked away” from your business, your involvement has not come to an end. The trustee will pursue their review of the facts and circumstances, so there will be an expectation of your cooperation. Working with your existing financial advisors and obtaining the support of internal personal (who no longer receive compensation) to assist can ease the process and speed the review by the trustee.

Review Part II, or go on to Phase III: The Process for Chapter 11 Filings.

Bankruptcy Process Part II: Filing for Protection

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