Mistake #3: Not making a “Motion to Compel the Trustee to Abandon Debtor’s Business”

This is a Countdown of the Top 12 Malpractice Mistakes Made by California Bankruptcy Attorneys

 

Mistake #3: Not making a “Motion to Compel the Trustee to Abandon Debtor’s Business” from the Chapter 7 bankruptcy estate.

 

Note: This article focuses on California bankruptcy attorneys and may reference California and 9th Circuit case law. However, most of the concepts presented here are applicable to bankruptcy attorneys everywhere. The 12 issues presented are not necessarily in order of importance.

 

It is surprising how many times I have seen attorneys post on various blogs that they just had a how it feels to not file a Motion to Compel the Trustee to Abandon Debtor’s Business during a bankruptcyBankruptcy Trustee close their client’s business down and they do not understand why that happened. Clients are not particularly happy with their bankruptcy attorney when their business is shut down. That is especially true when they were not told that this might happen. This article addresses this issue, and how to reduce that risk.

One way would be to incorporate the client’s business before filing a Chapter 7 Bankruptcy. However, that can leave your client with a corporation that they do not want, along with the issues that come with having a Corporation. This may not be an option. The second problem is that the stock is not exempt normally, except in a “wildcard” exemption state and then only to the extent of the available dollar limit.

Now, let us look at the other alternative, filing “Motion to Compel Abandonment of Debtor’s Business.”

 

“Motion to Compel Abandonment of Debtor’s Business.” During a Bankruptcy And How it Works

 

Like the prior article about failing to file a “Motion to Compel the Trustee to Abandon Real Property” from the bankruptcy estate, the “Motion to Compel the Trustee to Abandon Debtor’s Business” is basically the same motion. However, this “Motion to Compel Abandonment of Debtor’s Business” is used for a very different purpose.

The Motion to “Compel Abandonment of Real Property” is to protect from the Trustee taking increases in value in the exempt home for the benefit of creditors. The “Motion to Compel Abandonment of Debtor’s Business” is to allow the client to keep their business open and operating.

In Chapter 13 bankruptcy, there are specific provisions that allow the Debtor to run many types of sole proprietorship businesses including ones with inventory and employees. In Chapter 7 bankruptcy, there is no comparable provision.

If you read Chapter 11 U.S. Code § 721 – “Authorization to operate business,” the code allows the Bankruptcy Trustee, with Court Approval, to temporarily operate a business. That is so it can be liquidated as a business for more money than the assets could be sold for individually. That benefits the bankruptcy estate and the creditors.

There is no provision in the Bankruptcy Code that allows the Debtor to run a business. In fact, there is no provision that even allows the Bankruptcy Court to even approve of the Debtor running a business.

Of course, Bankruptcy Trustees are not interested in running a business such as landscaping, cleaning pools, janitorial services, hair styling, bookkeeping, selling real estate, practicing law and such. In fact, many of the service businesses that sole proprietors run require special licenses that the trustee simply does not have and cannot obtain. Most of these service businesses require skills that the Trustee does not have. I have never seen a Bankruptcy Trustee that wanted to clean a pool or mow a lawn.

The Bankruptcy Trustee also has another concern. If the Bankruptcy Trustee allows a business to continue to operate in violation of bankruptcy law, and the debtor harms someone while running the business, the Bankruptcy Trustee can be liable for the damages.

Why Should You File a “Motion to Compel Abandonment of Debtor’s Business.” During a Bankruptcy

 

So, for many reasons, the Bankruptcy Trustee has no reason or desire to allow the Debtor to run the business.

Your client may have a business that, if shut down for the length of the bankruptcy case, would cease to exist. Many businesses will lose their clients if they cannot operate during that period. As such, you need to act quickly to keep the business open.

Technically, you cannot keep a Bankruptcy Trustee from shutting down a sole proprietorship business. That is something you should advise your client in writing and get a signed waiver that the client understands that is a potential of happening.

The good news is that you can get the business out of the bankruptcy estate rather quickly if it has no value to the bankruptcy estate. That is where a “Motion to Compel Abandonment of the Debtor’s Business” comes in.

In many Bankruptcy Court Districts in the United States, a Bankruptcy Trustee will always shut the business down immediately. If they follow the law, that is what they should do. Then you need to file the “Motion to Compel Abandonment of Debtor’s Business” immediately. You should get it heard as quickly as possible and get the Bankruptcy Court Order abandoning the business back to the Debtor so they can reopen the doors of the business. This may require an Order Shortening Time and coordination with the Bankruptcy Trustee to agree to the release of the business.

In some Districts, the Bankruptcy Trustee might allow the Debtor to operate long enough for the Motion to Compel the Trustee to Abandon Debtor’s Business heard. My experience is that you are more likely to keep the business open if the business follows some simple rules and you do your job quickly.

The first thing a Bankruptcy Trustee wants to know is if there are any non-exempt assets in the business that you want to keep open. One example of that might be customer lists. Another would be assumable leases that are significantly below the market. However, those are not common issues. This is where you pick up the phone and call the Trustee as soon as possible.

You should have the list of the assets of the business on your asset schedule and show that the business assets are exempt. I suggest that you have the assets photographed by your clients. Then send them by email to the Bankruptcy Trustee.

The primary things that are typically exempt are the debtor’s tools of trade. Remember that inventory is not a tool of the Debtor’s trade. However, in some cases inventory may be exempted using a state’s “wildcard exemptions.” If the “assets” are not exempt, show the Bankruptcy Trustee that the business and assets have no value to the Bankruptcy Estate.

I also invite the Bankruptcy Trustee to come and immediately inspect any physical assets of the business so that the Bankruptcy Trustee can see for themselves that there is no value for the Bankruptcy Estate.

The second thing the Bankruptcy Trustee is concerned about is their personal liability if the Trustee allows the business to stay open pending the hearing on the Motion to Compel Abandonment. I always have my client obtain and have proof of liability insurance. We offer to put the Bankruptcy Trustee on the liability insurance as an additional insured.

Other things that Bankruptcy Trustees are going to want is for the business to:

  1. Have no employees;
  2. Be a service business;
  3. Not be dealing with hazardous materials;
  4. Not operating an inherently dangerous business;
  5. Has all licenses and permits necessary to legally operate the business; and
  6. You immediately file a Motion to Compel Abandonment of Debtor’s Business.

I have found that, at least in my Bankruptcy District, if you do all of the above, the Bankruptcy Trustees have allowed the business to continue to operate pending the Court hearing. In fact, in many instances, the Bankruptcy Trustees will actually file a Statement of Non-opposition to my motion.

If you are prepared, and you have prepared your client, this will typically not be a huge problem. At worst, if prepared, the business may be shut down for 2-3 weeks. Often you may not have the Bankruptcy Trustee shut it down at all.

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1 comment

  1. JAMES H COSSITT PC (cossittlaw) - Reply

    Excellent article on the classic chapter 7 small biz reorganization technique that I have been using for decades and pitching to CLE audiences for years.

    Thank you.

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