A Short Series on the Disappearing Debtor – Ownership Structure

PART 1: Ownership Structure

Contributed by:
Robert S. Bernstein, Esquire
Bernstein-Burkley, P.C.

What happens when a business debtor closes up shop one day only to appear the next day under a slightly different name without going through bankruptcy? How does that happen and what do creditors do?  We call these the Disappearing Debtors.

To answer that question, we need to review what ownership is, how debt is created and whether creditors have rights to attack property in a name other than the original customer. We attempt to do so in this four-part series. Should you have specific questions, please contact Bob Bernstein at bob@bernsteinlaw.com.

Someone asked how businesses shut down only to reopen nearby (or in the same location) under a slightly different name. There are a number of ways that can happen and several things a creditor can do about it. This series will address many of those issues.

To fully address the question, we need to first review different forms of ownership of businesses. A business is a sole proprietorship, a partnership, a corporation, a limited liability company or a trust. There is no such thing as “Jo’s Car Repair” other than one of those. If Jo runs this car repair service out of her garage with some tools and a little bit of equipment and Jo has not created any sort of registered entity for it, then she is personally liable for the debts. Here, Jo probably owns the assets of the business, since Jo’s Car Repair has no existence apart from Jo.

If Jo Smith and Fred Jones start a business together and they run it separately from their personal finances, they are probably a partnership, even though they have not registered it anywhere. It is still a distinct entity. In a partnership, the partners are generally liable for the debts of the partnership. They could register the partnership, but the same liability holds true. If they create a Limited Partnership, then the limited partners (having only invested money and not being involved in management) would probably not be liable beyond their investment. There must be at least one general partner in a limited partnership, and the general partner(s) would be liable for the partnership debts. Sometimes property of a partnership is owned in the names of the individual partners, although a partnership can hold title to property.

If they create a corporation, known as Jo’s Car Repair, Inc., they have created another kind of entity, one that is intended to shield the shareholders and officers and directors from personal liability for business debts, so long as they follow the corporate rules. Likewise, with a Limited Liability Company or a Limited Liability Partnership, the members are generally not liable for the debts of the entity. Each of the limited liability entities (corporation, LLC, LLP) have special rules and special purposes and cannot be treated in detail here. Each of these entities can own the business assets.

In some states, business trusts are created to hold property and operate businesses. They act very much like the other limited liability entities. If you have a situation with a trust as a customer or debtor, please consult your counsel as to the consequences.
Even though the business entities can own the business assets, there could be other holders (partners, shareholders) who could individually own the assets. This becomes important when the assets turn up somewhere else. If your customer (e.g. the corporation) doesn’t own the equipment, it is not available to service your debt later, no matter whose hands it is in.

Next – Part 2: Debt Structure

 

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