What Happens to an LLC or Corporation in Bankruptcy?

A corporation or LLC that files Chapter 7 bankruptcy does not get a "fresh start" the way a person does. The business's assets are sold off, its creditors are paid what the sale proceeds allow, and the entity is left with whatever debt it couldn't pay - it just has no ongoing operations or income to ever pay that debt with. Under federal law, only an individual can receive a discharge in Chapter 7; a corporation, LLC, or partnership legally cannot. As the owner, you're usually not personally responsible for the business's debts unless you signed a personal guarantee, cosigned a loan, or did something like failing to pay withheld payroll taxes. If you did guarantee business debt, you may need your own, separate personal bankruptcy case to deal with it.

The core rule: business entities don't get a discharge in Chapter 7

Under 11 U.S.C. § 727(a)(1), a bankruptcy court grants a Chapter 7 discharge to "the debtor" unless "the debtor is not an individual" - so the statute specifically bars a discharge whenever the debtor is a corporation, LLC, or partnership. In plain English: partnerships, corporations, and LLCs are eligible to file Chapter 7, but they can never receive a discharge of their debts. Congress wrote it this way to stop people from trafficking in "clean" corporate shells after a liquidation.

In practice, this usually doesn't matter much. Here's why: when a Chapter 7 trustee finishes selling off a company's assets and distributing the proceeds to creditors, the business is typically left with no property, no bank account, and no ongoing operations. A creditor can still legally sue the (now hollow) corporation for the unpaid balance, but there's nothing left to collect from. The company is usually dissolved under state law shortly after, closing the book for good. The U.S. Courts' overview of the process is at uscourts.gov's Chapter 7 Bankruptcy Basics.

What actually happens, step by step

• The company (through its owner or board) files a Chapter 7 petition listing all assets, debts, and creditors.
• A trustee is appointed to take control of the business's remaining property - equipment, inventory, accounts receivable, real estate, cash - and sell it for the benefit of creditors.
• Secured creditors (like a lender with a lien on equipment or a building) generally get paid first out of the collateral that secures their loan; anything left goes toward unsecured claims in the order the Bankruptcy Code sets out.
• Employees, taxing authorities, and other creditors file claims and are paid according to statutory priority - often only cents on the dollar, or nothing at all, once secured debt and administrative costs are covered.
• The case closes with the company's debts unpaid (not discharged, just unpaid) and the business typically dissolved with the state.

Because a business Chapter 7 has no discharge to fight over, it also skips some steps individuals go through, like credit counseling and the means test - those only apply to individual debtors. But it still involves trustee oversight, a review of the company's records and any recent transfers, and possible scrutiny of payments made to insiders (owners, officers, or their relatives) shortly before filing.

Are you, personally, on the hook for the business's debts?

This is usually the question that matters most to an owner, and the short answer is: it depends on how the debt was structured and how you ran the business - not on what happens to the company in bankruptcy.

The limited-liability shield generally holds

The whole point of forming a corporation or an LLC is to separate the owner's personal assets from the business's debts. If your company owes a vendor, a landlord, or an unsecured lender and never asked you to personally guarantee that debt, that debt generally stays with the business - it doesn't automatically become your problem just because the company can't pay it or files bankruptcy.

Where the shield doesn't protect you

• Personal guarantees. Many lenders, landlords, and equipment financers won't extend credit to a small or newer business without the owner personally guaranteeing repayment. If you signed one, you remain contractually liable for that specific debt even after the business's Chapter 7 case is over - the business's bankruptcy does nothing to erase your personal obligation. See our companion article on personal guarantees and business debt for how that liability works and what your own options are.
• Cosigned or jointly held debt. If you cosigned a loan in your own name, or the account was ever titled to you individually, you can be pursued directly.
• Unpaid payroll ("trust fund") taxes. Money withheld from employees' paychecks for federal income and FICA taxes is held "in trust" for the IRS. Owners and responsible officers can be held personally liable for a Trust Fund Recovery Penalty if that money wasn't turned over, and a business bankruptcy does not erase that personal liability. See the IRS's overview of the Trust Fund Recovery Penalty.
• Fraud, commingling, or "piercing the corporate veil." If a court finds that an owner ignored corporate formalities, mixed personal and business funds, undercapitalized the company on purpose, or used it to commit fraud, a court can disregard the entity and hold the owner personally liable for its debts - independent of any bankruptcy filing.
• Certain taxes and government debts in your own name. Some obligations, like a sole proprietor's self-employment taxes or debts a court has already attributed to you individually, were never the "business's" debt to begin with.

If none of these apply and everything was properly documented in the company's name, filing the business into Chapter 7 typically ends your involvement with its unsecured debts - you walk away, and the debt stays behind with the (now-defunct) entity.

Chapter 7 liquidation isn't the only option: reorganizing instead

Chapter 7 shuts a business down. If the business still has value as a going concern - real customers, real revenue, a path back to profitability - reorganizing under Chapter 11, including the streamlined Subchapter V track designed for smaller businesses, may let the company keep operating while it restructures debt and pays creditors over time under a court-approved plan. Chapter 11/Subchapter V has its own eligibility rules, including a debt-limit threshold that adjusts periodically, so don't assume a business qualifies without checking current figures at uscourts.gov's Bankruptcy Basics. Whether liquidating or reorganizing makes more sense depends on cash flow, the value of the business's assets versus its debt, and whether the owner (and any guaranteed lenders) can tolerate keeping the business alive during a repayment plan. We cover that decision in detail in should a small business file Chapter 7 or reorganize?

What to do if your business is drowning in debt

1. Separate the two questions. What happens to the business is a different legal question from what happens to you personally. List every business debt and note, for each one, whether you personally guaranteed or cosigned it.
2. Check for unpaid payroll taxes first. This is the debt most likely to follow you personally and to keep growing with penalties - address it before it snowballs.
3. Talk to a bankruptcy attorney who handles business cases before you file anything. Whether to liquidate, reorganize, or wind the business down outside of bankruptcy (an "assignment for the benefit of creditors" or simple dissolution) has real consequences that are hard to undo once creditors have been paid or assets sold.
4. If you personally guaranteed significant business debt and can't pay it, ask your attorney whether your own, separate individual bankruptcy case - Chapter 7 or Chapter 13 - makes sense for you. A business bankruptcy and a personal bankruptcy are two different cases, even when the same debts are involved.
5. Watch for the recent-transfer lookback. Payments the business made to you, family members, or other insiders in the months before filing can be scrutinized and potentially "clawed back" by a trustee - be transparent about them with your attorney rather than trying to explain them after the fact.
6. Confirm current numbers before you rely on them. Filing fees, the Subchapter V debt-eligibility limit, and other dollar figures in the Bankruptcy Code adjust periodically. Verify anything specific at uscourts.gov or with your attorney before you count on it.

Beware of business "debt relief" shortcuts

Struggling business owners are a common target for for-profit debt-settlement companies and non-attorney "petition preparers" who promise to make business debt disappear for an upfront fee. Non-attorneys are legally barred from giving you legal advice about which chapter to file or how to protect yourself personally, and debt-settlement outfits generally can't do anything a business or its owner can't do directly by negotiating with creditors. If cost is the barrier to hiring an attorney, look for a local law school bankruptcy clinic, your state or local bar association's referral service, or your bankruptcy court's self-help resources before turning to a paid, non-attorney service.

This article is general legal information, not legal advice, and does not create an attorney-client relationship. Business bankruptcy and personal-guarantee liability turn on the specific facts of your situation - talk to a qualified bankruptcy attorney, and be wary of any for-profit debt-relief or debt-settlement company, or non-attorney "petition preparer," that promises to erase business debt for an upfront fee.