Debtor/Creditor Issues for Small Business Startup

1. Observe your form of organization.

• Make sure your form of entity is properly set up and continues to remain in existence, or the principals will be personally liable
• Pay your annual filing fees so your entity remains in existence, or the principals could then become personally liable. 

      2. Pay attention to details.

• If you set up a corporation as your business entity, make sure that you sign the documents with your title as an officer (i.e. as “President”, “Vice-President” etc.).  Do not sign a business document personally.
• Keep records, on site and off site, of business events such as issuance of stock, bonds, notes and capital contributions
• Ex. If a friend or family loans money to your entity, do you have an executed promissory note which states the interest rate, who is the borrower, the repayment terms, etc.?
• Have you set up an accounting system/program such as Quickbooks and do you know how to use it?
• Do you have a budget for your venture?
• Do you know your “burn rate”?
• Have you prepared and reviewed an Income Statement and Balance Sheet? 

      3. Guaranties

• There are two types of guaranties that small businesses will usually enter into: (a) a general guaranty and (b) a “good guy” guaranty
• A guaranty is a written agreement by a third party or entity to pay the debts of an individual or entity (primary obligor) who fails to pay its debts as they mature
• As an example, if the entity wants an American Express corporate credit card, the principal(s) will need to guaranty payment to American Express if the entity does not make that payment.
• “Good Guy” guaranties are generally used for office leases. It is a limited form of guaranty that provides that the principals agree to pay the debts for the Tenant, if the Tenant fails to pay base rent or additional rent, until (i) the Tenant pays its rent arrears, (ii) vacates the space in broom clean condition and (iii) gives the keys back to the Landlord.

       4. Responsible Person Taxes are sales taxes or employees’ share of employment taxes (FICA and FUTA) that are collected by an entity and not paid over to the tax authorities

• The responsible person is generally an officer of the corporation and the taxing authorities will conduct an audit to determine who the responsible person(s) are after the business closes or fails.
• Responsible Person Taxes are also not dischargeable in personal bankruptcy
• Note the principals of a defunct entity are not liable for general corporate income tax liabilities that were not paid by the defunct entity.

      5. Fraudulent Conveyances

• NYS Debtor and Creditor Law and the Bankruptcy Code provide that if an individual or a business does not have sufficient capital to conduct its business, then they cannot transfer property for no consideration (gift) to family, friends or third parties. If they do, a creditor or the bankruptcy trustee can commence litigation to unwind the transaction.
• Hint: The best time to do “asset protection planning” is before one gets into trouble!

      6.  Small Corporation and LLC Wages for Employees

• Section 630 of the New York Business Corporation Law renders every privately held corporation’s ten largest shareholders personally liable, jointly and severally, “for all debts, wages or salaries due and owing to any of [the corporation’s] . . . laborers, servants or employees other than contractors, for services performed by them for such corporation.”  N.Y. Bus. Corp. Law § 630(a)
• Limited Liability Company Law § 609(c) provides similar treatment to laborers, servants and employees of a LLC
• Accordingly, if you are running a small business that is failing, make sure that you pay monies due your employees before the business closes or you may be personally liable for those monies.

       7. Closing a business (letting it go inactive or in windup mode) v. a Chapter 7 bankruptcy filing

• Closing a business benefits:  Lower administrative costs and possible to do without the help of professionals.
• Closing a business detriments: Belief by vendors or creditors that assets or inventory were not properly sold or accounted for, lawsuits, no accounting by a bankruptcy trustee and no “automatic stay” which results from an entity filing for bankruptcy protection 
• Chapter 7 bankruptcy filing benefits: Protection from creditor actions via the automatic stay, orderly payment of creditors if assets are available for distribution, and an orderly liquidation of company assets. The business closes after the Chapter 7 bankruptcy petition is filed with the bankruptcy court.  
• Chapter 7 bankruptcy filing detriments: Filing fee ($335), administrative cost for professionals, preparing schedules and reports for the bankruptcy trustee and meeting with the bankruptcy trustee (341 hearing) and possible bankruptcy trustee litigation (adversary proceeding).

New York Times: Fixing Credit Report Errors Online Gets Added Heft

By Ann Carrns

Disputing mistakes found on your credit report has become a bit easier because of expanding electronic options for challenging errors.

The three major credit bureaus have long provided online channels for challenging inaccuracies, but some consumer advocates advised against using that option because the systems didn’t allow for the inclusion of supporting documents.

That is changing, however, because the bureaus now offer consumers the ability to upload documents, like bills you have paid or letters you have written. (Equifax, for instance, said it added the document upload option in late 2013.)

“Now that you can upload documents, it allows for a more robust dispute online,” said Chi Chi Wu, a lawyer with the National Consumer Law Center. The center previously warned consumers against using the bureaus’ online dispute systems, but it now says that it can be a viable option for those who want to have errors removed quickly.

Errors in credit reports are a problem because they may lower your credit score, the three-digit number that serves as a summary of your credit history. That can possibly result in a higher interest rate on a loan or even denial of credit. A study by the Federal Trade Commission in 2012 found that about a quarter of consumers had errors in their credit reports. A smaller proportion — about 5 percent — had errors that could significantly lower their credit scores, but that still means millions of people are affected.

Consumer credit scores are calculated from data in credit reports, which are provided by the three big credit bureaus: Experian, TransUnion and Equifax. The reports are compiled using information supplied by lenders and credit card companies where you hold accounts.

In addition to the bureau systems, at least one online credit management site, Credit Karma, is now promoting a free tool that allows users to dispute some mistakes with a few clicks.

Users of the site can obtain a free credit report weekly and, if they spot an error, click a “dispute” button to start a challenge. The site has been testing the service for months, and it is now making it available to all users, said Kenneth Lin, the founder and chief executive of Credit Karma. In testing, he said, the site handled 600,000 disputes, and 87 percent resulted in a change to a member’s credit report.

There are some caveats. The service currently works only with TransUnion credit reports. That means you may not catch errors on reports prepared by Experian or Equifax.

Also, the site allows challenges only for inaccuracies that don’t typically require supporting documentation to correct. For errors that require documentation — like corrections to inaccurate personal information — users need to contact the bureau directly.

The site’s services, including the dispute tool, are offered free, but to use them you must register and provide personal information, including your Social Security number. The site has access to your credit report and uses it to make suggestions about managing your finances, like suggesting a loan with a lower interest rate. If you choose to apply for such a loan, the site earns a referral fee from the lender.

Here are some questions and answers about credit reports:

■ How can I check my credit report for errors?

By law, you are entitled to a free copy of your credit report once a year from the three main credit bureaus. To get the report, visit www.annualcreditreport.com.

■ What if I want to file a dispute on paper?

The credit bureau websites provide instructions if you want to go that route, which consumer advocates still recommend, if you think your dispute is complex and could potentially result in legal action. (If that is the case, Ms. Wu advises, use certified mail with a return receipt option.) The Federal Trade Commission offers sample letters on its website.

■ What if I am unhappy with the result of my dispute?

You can add a note to your credit file. You can also file a complaint with the Consumer Financial Protection Bureau on its website.

Copyright 2015 The New York Times Company.  All rights reserved.

Social Security Benefits, Student Loans and the IRS

Many of our debtor clients ask the question: if I owe the IRS taxes and I'm collecting Social Security benefits or going to collect Social Security benefits in the future, can the IRS levy my Social Security payments? Unfortunately for delinquent taxpayers, through the Federal Payment Levy Program (FPLP), 15% of a taxpayer's Social Security benefits may be levied to pay delinquent tax debt. However, certain other federal benefits, such as lump sum death benefits, Supplemental Security Income (SSI) and benefits paid to children are excluded from the FPLP levy.

What about student loans? If a debtor defaults in the payment of federally guaranteed student loans, then the IRS may levy on the debtor's tax refunds and apply those monies to the balance of the student loans. Additionally, if a debtor defaults on federally insured outstanding student loans, the government can take some federal benefit payments (including Social Security retirement and disability benefits, but not SSI) as reimbursement for student loans, but not the full amount (see below).

With respect to student loan defaults, the government cannot take any amount that would leave you with benefits less than $9,000 per year or $750 per month. And it cannot take more than 15% of your total benefits for either student loan defaults or delinquent taxes.

If you have questions about the federal government's powers to seize your benefits for the payment of delinquent taxes or publicly guaranteed student loans, please contact Jim Shenwick.

Treatment of Post-Petition Wages In Conversion for Chapter 13 to Chapter 7

Here at Shenwick & Associates, we specialize in bankruptcy and the unusual questions that arise in the course of bankruptcy cases. One of the great aspects of working in such a specialized area of the law is trying to figure out how courts will hold on an issue that isn't clear under current statutes and case law.

Sometimes, even the District Courts and Courts of Appeals disagree on a point of law. When Courts of Appeals disagree, there becomes a "circuit split" on an issue that only the Supreme Court can resolve.

A "circuit split" occurred regarding the question of what happens when a debtor (in good faith) converts a case to Chapter 7 after the confirmation of a Chapter 13 plan. Do the undistributed funds get distributed to creditors, or are they returned to the debtor?

The question turns upon how the courts interpret Section 348 of the Bankruptcy Code, which addresses the effect of conversion on cases. Subsection (f) provides that if the case is converted in good faith, "property of the estate in the converted case shall consist of property of the estate, as of the date of filing of the petition, that remains in the possession of or is under the control of the debtor on the date of conversion."

In the case the Supreme Court decided to review, Harris v. Viegelahn, the petitioner was indebted to multiple creditors and $3,700 behind on his monthly payments to Chase, who held the mortgage on his home. He filed for Chapter 13 bankruptcy, and his plan provided that he would resume making monthly mortgage payments to Chase and $530 per month would be withheld from his post-petition wages and remitted to Viegelahn, the Chapter 13 trustee. Viegelahn would make monthly payments to Chase to pay down Harris' mortgage arrears, and distribute remaining funds to Harris' other creditors.

However, Harris again feel behind on his monthly mortgage payments, and Chase foreclosed on his home. After the foreclosure, Viegelahn stopped making the payments earmarked for Chase and funds began to accumulate in his possession. About a year after the foreclosure, Harris converted his case to Chapter 7. Ten days after the conversion, Viegelahn distributed $5,519.22 in Harris' withheld wages to creditors.

Arguing that Viegelahn lacked authority to disburse his post-petition wages to creditors after conversion, Harris sought an order from the Bankruptcy Court directing refund of the accumulated wages Viegelahn paid to his creditors. The Bankruptcy Court granted Harris' motion, and the District Court affirmed. However, the Fifth Circuit reversed, concluding that a former Chapter 13 trustee must distribute a debtor's accumulated post-petition wages to his creditors. The Supreme Court disagreed, concurring with the Third Circuit in In re Michael that a debtor who converts to Chapter 7 is entitled to the return of any post-petition wages not yet distributed by the Chapter 13 trustee

For these and other questions that require our bankruptcy expertise, please contact Jim Shenwick