I recently had a chapter 7 case for an individual who had interests in numerous businesses.  His case was filed in late 2013.  Only now has his trustee decided to have become active in administering the assets which I thought was a bit strange since the ownership interest in one of the business entities that we had scheduled had a stated value of at least $20K that was not exempt in his bankruptcy case.  Fast forward….last week which was more than a year and a half after his creditor’s meeting my client was subpoenaed to appear at an examination by the trustee and the trustee’s attorney.  There was also a demand for production of documents related to numerous of the business entities to include about a half dozen of those that we had valued at the nominal sum of $1.00 on his schedules.  We assign them this minimal value just so we have a number to put down so we can exempt the interest even though at the time the case was filed a liquation analysis shows the liabilities are much higher than any equity in the company assets.  I include a note on the petition that says “no value to the bankruptcy estate”.  This is quite common on bankruptcy schedules.  However, surprise, surprise (surprises are never good)   When I reviewed the documents my client provided to the trustee just prior to the deposition I noted that in the intervening time period the balance sheet he now provided the trustee showed almost $700,000 in equity in one the businesses that had been listed with a value of $1.00.  The trustee, of course, noted that as well.  My client testified at the deposition that the balance sheet was wrong as it did not include a $2,000,000 line of credit that had been extended by a local bank.  The trustee stated that without more he would rely on the balance sheet and posited that the business must indeed be worth something as the two owners had each drawn $100,000 as compensation within the past year and that they somehow must have convinced the bank that lent them the $2,000,0000 that there was some value there.  A solid argument.  In my client’s defense I argued that his business was very fluid (real estate development) and that highs and lows are common.

How this will turn out only time will tell.  This is, of course, an unusual situation.  The take away from it is that if you file a bankruptcy case and list a business as one of your interests….don’t “work” that business and create any equity in it at least and until after it is clear that the trustee has filed his closing report with the court stating the assets of the bankruptcy estate have been fully administered.  In this case the trustee wants a reasonable offer from my client to settle it.  My client is adamant that while it might be true that at one time since his case was filed that the business’s fortunes fared well that things are rather fluid and that at this time they are down and the business is again, from a liquidation standpoint, at a position of little to no equity considering the outstanding line of credit.  Unfortunate, of course, that the balance sheet he provided said otherwise.   Now….had my client only let me know what had been going on here and had asked me about it I would have advised him to create a new business entity after he had filed his bankruptcy to run this business activity through instead of this existing one due to the potential increase in value of an asset that the trustee had not yet dealt with in terms of his administration of the case.  The trustee can potentially get a windfall in these situations as the estate is entitled to any increase in value.  Whether he was being cagey or not by intentionally waiting this long in this particular case it works out well for him and bad for my client.  I think he wasn’t and believe he just “got lucky”.  Hopefully my client can rustle up enough paperwork to prove his argument to the trustee that this business is again insolvent from a liquidation standpoint.   If not, and if he still claims it isn’t worth anything then my advice is to tell the trustee he can have it.  Trustee’s aren’t interested in running businesses, especially risky ones saddled with a lot of debt.  There is a potential he would go to the other shareholder and offer to sell my client’s 50% share to him on the cheap….that’s happened before.  But is that person isn’t interested the trustee would most likely abandoning the asset as being more of a burden then a benefit to the bankruptcy estate.  And here I thought the major issue was going to be the one business that we had listed with some value on his schedules….not this whole can of worms that has opened up.    Just goes to show you that clients can still surprise you….even after 25 years of doing these cases.

So….the advice for the rest of you.  If you have a business (or two or three or a dozen like this guy did)….once you file don’t continue working it.  Set up a new business entity but only after your chapter 7 is filed.  That way it isn’t part of the bankruptcy estate which is comprised of any assets or interests you have an ownership interest in at the time you file.  What you do afterwards is your business and not the trustee’s.

 

Author:  David D. Kingsbury, Bankruptcy Lawyer

 

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