If my Company is Not Viable – then What? Is a Corporate Bankruptcy always necessary?
Owning your own business can be overwhelming and all-encompassing, but sometimes, even with the best efforts of staff and management , companies can find themselves struggling with debt. If upon review of the operation of the business, no matter how much debt you can shed, that the business cannot be saved, the only option is to cease to operate.
Corporate Bankruptcy – What is it?
This is a formal legal state where an insolvent entity signs itself into bankruptcy and turns over all its assets to a bankruptcy trustee licensed under the Bankruptcy and Insolvency Act (LIT). The process of assigning can either be a voluntary decision or by court order. The result of either an assignment or court order is the same for the company. i.e. the company assets are sold off and the proceeds are shared with the creditors. Once bankrupt, companies do not continue to operate. A corporate bankruptcy is sort of like jumping off a cliff – either deciding to jump or waiting to be pushed – both results are the same in the end.
The purpose of having a trustee is to oversee the process to make sure all creditors are treated fairly. The Bankruptcy and Insolvency Act (BIA) governs the corporate bankruptcy process. The BIA outlines which creditors get paid in what order based on a “Scheme of Distribution” . This some of the rules LIT or Licensed Insolvency Trustee must follow.
Trustees do charge a fee for this service. Generally an LIT will get paid from the sale of any assets held by the company. So, there has to be enough value in the assets of the company to ensure that the Trustee can be paid. If there is not enough to pay the Trustee, the assets can be liquidated by the principles of the company. Sometimes, the secured creditor may seize and sell company assets for their own benefit or choose to appoint a Receiver (Receivership) to do this process for them.
Liquidating your own assets for distribution to creditors can be a daunting prospect for business owners as there are many legal pitfalls. (like tax filing issues or employee wages) Expert advice is always advised in corporate bankruptcy situations as you don’t want to pay off more to one creditor than another, which then may expose the principles to claims of favoritism or fraudulent preference.
Often business just stop operating if something has happened to the assets of the company, like being seized by a creditor. This often happens in small business where CRA seizes or shuts down the only bank account being used by the company. Other assets may have been seized by the Canada Revenue Agency for taxes (like GST, source deductions for payroll)
Meeting with a Licensed Insolvency Trustee for Business Bankruptcy
A Licensed Insolvency Trustee or bankruptcy trustee will sit down with the business owner and review the types of business debt and the value of the assets of the corporation.
When considering corporate bankruptcy, all debts or future obligations must be considered.
Types of corporate debt include:
Trade creditors: your basic accounts payable from suppliers etc. to fund daily operations.
Canada Revenue Agency obligations: GST, source deductions, and corporate tax
WCB or Worker’s Compensation Board.
Employee obligations: holiday pay, and possible severance pay in lieu of notice.
Contract dispute issues: breach of contract, product deficiency/returns obligations.
Secure debt: these can include lines of credit, overdrafts from banking or other institutions which can be secured by General Security Agreement where in the corporation’s assets have been pledged as security in case of default. This means that if the terms of the debt or breached, company’s assets would be liquidated.
Directors’ liabilities: As a director of the limited corporation there are debts of the corporation that will automatically follow and become personally payable by directors. These director obligations include un-remitted source deductions, GST/HST, some portion of employee wages and holiday pay, and possibly other areas of gross negligence.
Personal obligations of shareholders and directors: Especially in the instance where the business is small or medium, many institutions such as the banks require that the directors/shareholders also sign personal guarantees along with the company. This may mean that, if there are insufficient assets available upon liquidation to cover the debts of the company, then those who have signed the personal guarantees or can be held personally responsible, joint and severally, with the corporation.
If upon review of the assets and debts of the corporation, that is, if there is sufficient value in the assets above any secured claims or priority charges, then a formal corporate bankruptcy may be the best option to ensure a fair and orderly distribution of funds to the creditors.
If a company liquidates its own assets to pay off bills and is now left with just debt, what happens then?
If there are no assets remaining in the company, and it has ceased to operate, it will still be considered a legal entity as long as it files its Annual Corporate return with the Registrar of Companies. In British Columbia, if a company does not file these returns for greater than 2 years, it will then be struck from the registrar and THEN cease to exist. (This varies by province). In the meantime, creditors can try to sue the company, but with no assets to pay the debt with, there is nothing that can really be done.
However, especially when dealing with the banks and especially for the small business owner, creditors often require that personal guarantees be signed by the principles of the company so that if the assets of the company are insufficient to pay back the creditor, then the creditors can sue the principles personally.
As well, if you are operating as a Director or Officer of a limited corporation, you can also be held personally liable for a group of obligations called Directors’ Liabilities. These specific types of obligations and the individual amounts vary from province to province, but can include such items as:
- CRA trust claims, (employee remittance),
- Employee wages
- Provincial Tax
- WCB (Workers Compensation)
- Personal guarantees
If, once the corporation debts or assets have been dealt with, and all that remains is personal obligation, then Directors or other principles or the corporation may have to consider filing for Personal Bankruptcy or Consumer Proposal as well.
Notice to Trade Creditors
If you are a small business owner and certain that the company you own is no longer viable, then stopping to operate may be the best option. As discussed above, you may also be personally liable for some corporate debts and it is best to be clear about your personal exposure.
For clarity to the companies’ creditors if you have opted to no longer operate as all that there is left if debt, write a brief letter to each creditor outlining the difficulties and stating that the company has ceased to operate and that no further payments will be forthcoming. Creditors may choose to respond to you as a Director/guarantor outlining why they feel you owe them personally (personal guarantee). If you feel they are wrong and that they cannot legally come after your, you must respond to them in writing stating your position and also respond to any legal actions they may file against your personally.
Notice to CRA
If you are shutting down a company, as a Director you do have an obligation to file the final corporate returns (T2, GST, PST, T4’s) etc with the Canada Revenue Agency (CRA) and the provincial authorities. Once these final returns are completed, you should then file a request with CRA to cancel your CRA Business Number (BN). Note, if there is debt remaining to CRA they will not allow you to cancel your BN. They do this to allow them to collect against the Directors personally.
The company will still exist as a legal entity, but if you do not file the Annual Returns with the Registrar of Companies for 2 years (differs by province) then after this time the company will be struck from the register and will no longer legally exist.
If you are shutting down a business, it may make sense to make sure that you have a personal bank account where you DO NOT also have debt. If you bank at CIBC and have a CIBC Visa, then the Visa people can go into your CIBC account and scoop payments if any are missed.
If you have an account at a different instruction like TD Bank, CIBC Visa cannot get funds from that account without first applying to court for a judgement (Court Order) allowing them to do so.
Continue to Pay your Personal Debts.???
Each situation is different, but if you are clear that the personal obligations that you will have as a Director/Guarantor after the company ceases to operate will mean that you are also personally insolvent, some people simply decide to stop paying the “minimum payments” on their own personal debts and corporate guarantees. i.e. as the company is shutting down, they know that they shortly will have to choose one the of personal formal debt solution alternative (personal bankruptcy or proposal). As discussed above, if you are stopping paying your personal debts, make sure you have a bank account at an institution that does not hold any of your personal debt.
Directors may choose to focus on their personal family obligations only (such a mortgage and car payments if they are hoping to keep these assets) as these are the only payments they can afford. This is most often true when the small business owner has no other source of monthly income other that what was generated in the now insolvent company.
Within a few months of shutting the business, it will become clearer what debts will remain after the corporate assets are sold and how much of these debts will be left on the shoulders of the Directors/Guarantors. With this information, the Director/Guarantor can have a more precise idea about how much they owe which will inform their discussion with a Licensed Insolvency Trustee and their personal options.
However, at any time throughout the process any personal can assign themselves into bankruptcy if the situation becomes overwhelming and they need to have the creditors actions stopped like phone calls and court actions etc.
At C.E .Craig & Associates Inc we offer a FREE Consultation where we sit down with you to review your personal situation. Colleen Craig as a Chartered Accountant and Licensed Insolvency Trustee has been living in working in the Victoria area for over 19 years offering real solutions for Victoria residents and their business.
Call Today at 250-386-8778 to understand your options.
Other Discussion Related to Corporate or Sole Proprietorship Bankruptcy