Bankruptcy law might deter small business growth

The fear is that the legislation penalizes owners of failed businesses, who sometimes turn to personal bankruptcy relief as a safety net.

Under the new law, a means test will determine whether filers can afford to repay part of their debts, which would mean more Chapter 13 bankruptcy filings instead of Chapter 7.

Chapter 7 bankruptcies, commonly used for consumer bankruptcies, discharge many or all of filers’ debts. Chapter 13 bankruptcy requires filers to partially or fully repay debts over a period of three to five years.

One-third of clients at the Bankruptcy Clinic LLC in Springfield file for bankruptcy due to a failed business, said attorney Angela Acree.

The new legislation, she said, might discourage would-be entrepreneurs.

“If they know that if they fail they’re just stuck with this enormous debt that they can’t get rid of ever, maybe there are people out there that won’t risk it,” Acree said. “There’s a lot of people out there that are willing to stick their neck out, but they don’t want it chopped off.”

The means test would look at whether the filer earns more than the median income for the state of Missouri, $38,000. If the amount of the filer’s income, net expenses, is less than $100 per month, Chapter 7 can still be used, and debts might be discharged.

Filers would be required to seek credit counseling within 180 days of filing, said Mike Cherry, president and chief executive officer of Consumer Credit Counseling Service.

Cherry estimates this requirement would more than double the number of clients his business helps. Last year, CCCS counseled 4,500 clients, up from 3,360 clients in 2003.

The study

But the authors of a new national study, “The Myth of the Disappearing Business Bankruptcy,” say credit counseling isn’t always appropriate.

“A sophisticated entrepreneur doesn’t need to take a course on how to balance a checkbook. They need to get back to work,” said Elizabeth Warren, Harvard Law School professor and the study’s co-author.

Sponsored by the Kauffman Foundation of Kansas City, the study further reports that the government’s bankruptcy statistics that Congress considered in writing the new law fail to account for thousands of entrepreneurs nationwide who file for consumer bankruptcy.

Warren and co-author Robert Lawless, a University of Nevada-Las Vegas School of Law professor, conclude that rather than the 37,000 business filings reported by the Administrative Office of the U.S. Courts for 2003, there were between 260,000 and 315,000 cases filed as consumer bankruptcies tied to filers’ small businesses.

In government reports, each 12-month period from 1986 to 2003 has exhibited a decline in the percentage of business filings.

“If the government is to be believed, business filings made up 18 percent in 1985 to only 2 percent of filings today,” Lawless said.

Nearly 19.5 percent of all bankruptcies in the study had underlying ties to a business.

These discrepancies make it appear that fewer business-related bankruptcies have occurred, the co-authors say.

In Springfield, Thomas LaDon and Carol Vickers, the owners of Firehouse Coffee Bar, formerly at 1281 E. Republic Road, filed Chapter 7 bankruptcy in 2003. Their attorney, Jon Gold, a partner with Reynolds, Gold and Grosser, said in previous SBJ coverage that it’s not uncommon to see personal bankruptcies that are a result of the owners trying to save the business.

The Vickers, he said, closed Firehouse “after exhausting all their resources to keep the business going.”

While the number of personal bankruptcies filed in connection to small business is not available for the Springfield district, expectations are that bankruptcies in general will rise before the law’s October effective date.

Through March 31, bankruptcies filed in the Western District were up 3.5 percent from a year ago, according to U.S. Bankruptcy Court data.

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