Collecting a Judgment Against a Corporation After Chapter 7 Bankruptcy
Corporations, as well as individuals, can file for Chapter 7 bankruptcy in order to have debts discharged. For both businesses and consumers who file for Chapter 7 bankruptcy, there are certain protections associated with filing for bankruptcy, including the automatic stay, which prevents creditors from continuing to collect on debts as soon as the bankruptcy petition is filed. But can filing for bankruptcy prevent creditors from seeking a judgment against a debtor at a later date? And more specifically, what happens if a creditor tries to get a judgment—or collect on a judgment—against a corporation after the corporation has been through a Chapter 7 bankruptcy?
The answer to this question is complicated, and it depends in part upon when a creditor files the initial lawsuit and gets the judgment against the corporation, as well as how the corporation was run while it remained in operation. We will say more about how this process works and will give you a couple of examples of how this question might apply to corporations in the Tampa Bay area.
When a Creditor Tries to Collect on a Judgment Existing Prior to a Bankruptcy
We want to provide you with information first about what happens with a creditor tries to collect on an existing judgment when a corporation files for Chapter 7 bankruptcy. Imagine that there is a corporation in the Tampa Bay area, and that corporation is having a lot of trouble making payments to its creditors. While the business is still attempting to keep its doors open and to make some payments to creditors, Creditor A files a civil lawsuit against the business, seeking a judgment. Creditor A wins the case, and ends up with a judgment against Creditor A. Immediately after Creditor A gets the judgment, the corporation files for Chapter 7 bankruptcy.
Under the U.S. Bankruptcy Code, the automatic stay associated with a Chapter 7 bankruptcy filing means that, if the creditor already has taken you to court and has gotten a judgment against you, the creditor cannot continue to attempt to collect once you have filed for bankruptcy. In terms of collecting on what is owed according to that judgment, the creditor’s ability to recoup any money depends in part on whether the debt is a priority debt, as well as how much money is part of the bankruptcy estate for the purposes of repaying creditors. In most situations, debts for which a creditor has gotten a judgment against a corporation (or an individual) are for unsecured debts. Why does this matter?
A bankrupt business is required to pay its secured creditors prior to paying its unsecured creditors in a Chapter 7 bankruptcy. The secured creditors have what are known as “priority debts.” As such, in many liquidation bankruptcies filed by corporations, the unsecured creditors may not end up getting paid since there is not enough money left. In such a situation, the unsecured creditor with the judgment cannot collect on that judgment from the bankruptcy estate if there is nothing left. For some businesses, such as sole proprietorships, the creditor only can collect if the debt is not dischargeable, or if the debtor agrees to reinstate or revive the debt (which is unlikely). However, this works differently for corporations and LLCs.
How Corporations and LLCs Are Different From Other Types of Businesses in Bankruptcy
Unlike some other types of businesses (such as sole proprietorships), corporations and LLCs do not actually get discharges when they file for Chapter 7 bankruptcy. Instead of a discharge, since the Chapter 7 bankruptcy closes the corporation and renders it non-operational, a creditor cannot continue trying to collect from a corporation once it is closed since there are no assets left in the company.
However, creditors may be able to continue attempting to collect on a judgment by going after certain individuals associated with the corporation.
When a Creditor Tries to Obtain a Judgment After a Corporation Files for Bankruptcy
We mentioned the automatic stay associated with Chapter 7 bankruptcy. The automatic stay not only prevents creditors from continuing to collect, but it also stops any pending lawsuits against the corporation, and it also prevents creditors from filing new lawsuits against the bankruptcy business through the bankruptcy proceedings.
Yet as we mentioned above, since a corporation does not get a discharge in a Chapter 7 bankruptcy, it may be possible for a creditor to continue to attempt collecting from particular individuals even when the corporation has been closed. Indeed, if you are personally liable for any debt associated with a corporation or an LLC, then you can still be liable for that debt even after that business goes through a Chapter 7 bankruptcy.
Who can be held personally liable for the debt of a corporation? The answer depends upon the specific business structure and roles that were assigned when the business was formed. While corporations usually are designed to shield individuals from personal liability for the corporation’s debts and obligations, there are some circumstances in which directors, shareholders, officers, and even members of a corporation can be held liable for a corporation’s debts. This is a process that is known as “piercing the corporate veil,” and it can occur when a court determines that individuals associated with the corporation should be held personally liable for the company’s debts.
When the corporate veil is pierced, creditors may be able to go after the personal assets of a corporation’s shareholders, members, and other figures.
When Will a Court Pierce the Corporate Veil?
Courts most often pierce the corporate veil and hold a corporation’s members and others personally liable for debt when certain conditions exist, such as:
- Corporation engaged in fraud or reckless behavior in making business deals;
- There is a close connection between the corporation and the shareholders or members (for example, the members use personal assets to do business deals), and thus the shareholders or members actually should not be shielded from personal liability; or
- Creditors unjustly were affected by the corporation’s operations, or the corporation’s failure to abide by the formalities associated with running a corporation.
Generally speaking, piercing the corporate veil tends to occur more often with closely held corporations due to their size and structure.
Contact a Tampa Bankruptcy Lawyer
If you have questions about corporations and Chapter 7 bankruptcy, you should speak with a Tampa bankruptcy attorney about your case. Contact Samantha L. Dammer to learn more about the services we provide to businesses and individual consumers in the Tampa Bay area.