11 Things to Do When a Client Files Bankruptcy

Bankruptcy filings are up considerably. So, don't be surprised if you open your mail and find a letter from an attorney telling you that one of your clients or customers is seeking relief from the courts to solve his or her financial troubles.

The bankruptcy process is full of rules that the debtor and creditor must follow. However, bankruptcy is not as formal as say civil court, says Victoria Ring, a debtor bankruptcy specialist and CEO of Colorado Bankruptcy Training, which provides instruction and support to attorneys nationwide. Bankruptcy is a big "Let's Make a Deal." You can negotiate a resolution, hopefully one that is in your favor, in cases where the debtor is trying to save the business and pay back creditors.

With a Chapter 11 or Chapter 13 filing, reorganization is the goal. Debtors are required to pay debts according to a repayment plan the court sets up. Chapter 7 bankruptcy filing is quite different; the business is shutting its doors permanently and individuals are given a "fresh start" by liquidating assets and discharging debts.

Of course, the problem is that the vast majority of the filings are Chapter 7. More than 1.5 million consumer bankruptcy filings were processed over a 12-month period ending September 30, a 14 percent increase from the previous year, according to data released by the Administrative Office of the U.S. Courts. Chapter 7 filings were up 16 percent to over 1.1 million. Chapter 13 filings were up 9 percent to 434,839, while Chapter 11 filings were down nearly 4 percent to 14,191. Business bankruptcy filings fell 1 percent to 58,322.

1. Stop Contact Completely

Once a person or business files for bankruptcy, you have to stop any and all collection activity. If you make contact to try to get your money back, you will violate the bankruptcy code and you can actually be sued. Even if you filed a lawsuit against the client, it gets stayed until the bankruptcy is completed. You can, however, contact the attorney or court appointed trustee to work out an arrangement on how your debt is handled in the bankruptcy, says Ring, who is the author of 102 Things Your Need to Know Before You File Bankruptcy. If for some reason you are not listed in the bankruptcy petition as a creditor who is owed money, then you will have the right to keep collecting on the debt even after the bankruptcy is over, says Ring.

2. Do a Cost-Benefit Analysis

Assess whether it is even worth your time or should you simply take the loss, says Daniel Gershburg, a Brooklyn, New York bankruptcy attorney. Meaning, "in a practical sense can you really get any money back from this consumer or client?" For instance, say the business grosses over $500,000 but it has over $1 million in debts and a long string of 15 creditors or more. There is very little chance you are going to receive any money back, Gershburg says. In most cases, he adds, small companies or consumers filing bankruptcy aren't going to have tangible assets that the trustee can sell and then distribute to any and all creditors. Ring suggests reviewing the schedule I and schedule J, included in every petition, which will show the filer's income and expenses.

Dig Deeper: Report: Businesses Going Bankrupt

3. Pay Attention to the Type of Bankruptcy

Read more: Inc.

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