The Difference Between Chapter 7 and Chapter 11 Bankruptcy For Businesses
In many ways, Chapter 7 and Chapter 13 bankruptcy are thought of as different than Chapter 11. To some extent that’s correct, as they abide by different laws, and affect or help different people or companies. But how are they different? Specifically, how is Chapter 7 bankruptcy different from Chapter 11 bankruptcy?
Liquidation or Reorganization?
Chapter 7 is often thought of as the standard consumer bankruptcy. But it can also be used by businesses, even though the end effect on businesses in a Chapter 7 is different than it would be for an individual consumer who files.
As a general rule, a business that files for Chapter 7 bankruptcy normally does so with the purpose and intention of shutting down the business (which is why it’s called “liquidation”). In Chapter 7 cases, the bankruptcy trustee may take over the business and either run it, but most typically or wind down its operations.
Chapter 7 does not have any creditor committees, to make decisions about how the debtor will continue operating. If the trustee decides to operate the business, the trustee has sole discretion how to do so.
Paying Off Creditors
With a Chapter 7 bankruptcy, there is no avenue for paying off creditors and still continuing operations the way there is with a Chapter 11 bankruptcy.
In Chapter 7, the business will likely lose money or property (unless the property is protected under specified exemptions). But that may not be of concern if the business is looking to shut down anyway. In other words, a Chapter 7 bankruptcy can serve as a way to liquidate, pay creditors, and close up the affairs of the business much quicker and easier than the business would be able to close up operations outside of bankruptcy.
Although a business can lose some property in a Chapter 11, as a general rule, the court and the creditors’ interest are in keeping the business running. That means that the interest in selling everything the business owns to pay off creditors isn’t there. Because a reorganization plan entails making payments to creditors, those payments mean that the debtor gets to keep more of its property.
Reorganization plans can also treat every creditor (or class of creditor) differently. Some may be paid more than others. Some will be paid in full, some completely discharged. This is not the case in Chapter 7 where every creditor is generally treated equally.
Control of the Business
One advantage in Chapter 11 for debtors seeking to reorganize is that the debtor is considered a “debtor in possession,” meaning that you as the debtor in most cases get to continue to operate your business and its affairs throughout the case.
That isn’t the case where the trustee will take over the operations of the business for the purpose of shutting it down.