In the third quarter of 2008, 11,504 businesses filed for bankruptcy. What happens if one of your customers happens to go bankrupt? The best thing to do is keep up good businesses practices in extending credit and collection of accounts receivable so you’re prepared for the worst-case scenario and can keep your business afloat.
“It should improve your cash flow by keeping the customers current and limit the amount of any claim in bankruptcy should a customer file bankruptcy,” says Gary A. Barnes, shareholder at Baker, Donelson, Bearman, Caldwell & Berkowitz PC.
Smart Business spoke with Barnes about the legal rights you have when customers go bankrupt and the steps you should take if that happens.
What legal rights do creditors have?
If you’re a creditor in a bankruptcy case, you have a right to have the correct amount of your debt listed as a liability of the company that has gone into bankruptcy. That can be done by confirming that the debtor has properly listed the amount that you’re owed and by filing a proof of claim, if necessary. When filing a proof of claim (a form provided by the court) attach the documents that support your claim, send the documents to the bankruptcy court, and include an extra copy to be returned with a date filed stamp so you have proof that it has been filed.
Creditors can work with an attorney who will assist them with filling out and filing the proof of claim. The attorney can also help the client determine whether or not it’s in the client’s best interest to participate in one of the committees for the bankruptcy, attend hearings or take other action in the case in order to collect on the debt owed.
Companies that file bankruptcy do have to list all of the companies or people they owe money to at the time of filing. The list is mailed out by the bankruptcy court, and you will get a notice if you are owed money at the time. But if nothing is due, no notice is given.
Are creditors subject to litigation?
Yes, potentially. There is a concept in bankruptcy of a preference. Generally, a preference is a payment that is received for a payment of an invoice for goods or services that are in the past, as opposed to a payment on a current invoice. Trustees in bankruptcy and sometimes companies in Chapter 11, even though they are in the process of reorganizing, are allowed to claim against creditors who have received payments within 90 days of the filing of the case if those payments are considered a preference.
Sometimes creditors are not aware a company has filed bankruptcy because they had been paid in full. These creditors learn of the bankruptcy when they receive letters from trustees or law firms attempting to collect preferences. You should not ignore these letters, as it may result in lawsuits being filed against the company to collect these alleged preferences.
What steps should a company take when it finds itself in this situation?
If a company is not experienced in handling preference claims, it should refer this matter to an attorney who is familiar with bankruptcy proceedings and can efficiently monitor and give advice on these issues.
What should businesses be aware of when dealing with customers who have gone bankrupt?
Businesses need to make a decision about whether or not they need to take active steps in the bankruptcy case to protect their interests. It may be as simple as filing their claim to see if they can get a recovery, but just because a company has a claim doesn’t necessarily mean it will receive money. It could be that the bankrupt company doesn’t have enough money to pay its claims; if it’s an unsecured claim, it may only pay a portion of the claim, and sometimes there may be objections to the claim.
General recovery in bankruptcy cases is far less than a full payment of the amounts claimed. In cases of Chapter 7, there may actually not be any payment on your accounts receivable claim, which are considered unsecured claims. In Chapter 11 cases, the payments could range from 20 to 30 cents on the dollar to possibly 100 percent.
GARY A. BARNES is a shareholder with Baker, Donelson, Bearman, Caldwell & Berkowitz PC. Reach him at (404) 221-6509 or firstname.lastname@example.org.