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Can You Declare Bankruptcy on a Small Business Administration (SBA) Loan?

Small businesses have faced difficult times over the past few years. Even after surviving the pandemic and recessions, you may need to consider bankruptcy. Bankruptcy is a way to clear debt so you can get a new start. But, before filing for bankruptcy, it is important to understand what debts you can have discharged and what is at risk of repossession.

Bankruptcy involves federal law, but bankruptcy exceptions vary by state. If you own a small business and have questions about what kind of debt you can erase in bankruptcy, talk to a local bankruptcy law attorney.

What Are Small Business Administration (SBA) Loans?

The U.S. Small Business Administration (SBA) guarantees SBA loans. The SBA is a government agency that offers financial incentives to banks and financial institutions to loan money to small businesses. The SBA does not directly make loans. Instead, the SBA guarantees a part of the loan, reducing the liability risk if the borrower defaults.

Sometimes, the borrower must also sign a personal loan guarantee. A personal guarantee may give the lender a security interest in your house, vehicle, or other property. If you default on the loan, the lender can put a lien on the property to recover any value.

Can a Small Business File for Bankruptcy?

For individuals, the bankruptcy options are only Chapter 7 liquidation and Chapter 13 bankruptcy wage earners’ plans. Business bankruptcy will generally be either Chapter 7 or Chapter 11. If your business is profitable, but you can reorganize to get back to profitability, Chapter 11 is a better option. If you are too far in debt to recover, Chapter 7 might be your only option.

Are SBA Loans Dischargeable Debt in a Bankruptcy?

In most cases, SBA loans are like other debts in a business bankruptcy filing. Without fraud, most SBA loans can be cleared away after filing for bankruptcy.

If the SBA lender is a secured creditor, they may still have a claim over any property used to secure the debt. For example, if a bank loaned your business money to buy real estate for the business, they may have a security interest in the property.

Can I Discharge COVID Relief Loans in Bankruptcy?

Many businesses suffered from the COVID-19 pandemic. In response, the SBA offered Economic Injury Disaster Loans (EIDL) at a lower interest rate to help small businesses with capital through the recovery. These are different from the Paycheck Protection Program (PPP) forgiveness loans.

In most cases, COVID-relief small business loans are dischargeable in bankruptcy. But loans over a certain amount also need a personal guarantee. If there is outstanding debt for an EIDL loan, as the small business owner, you might be personally liable for debts. A loan default means the SBA could act against your personal property to repay the loan.

Exceptions to Discharge for Fraud

There are exceptions to dischargeable debt under the bankruptcy code. Under the U.S. Bankruptcy Code, there is an exception for money, property, or credit gotten by misrepresentation. If you applied for an SBA loan based on a loan application falsely representing your business’ financial condition, the bankruptcy court could find this was an exception to discharge.

The SBA lender could try to recover damages for losses under the loan, interest, expenses, and attorney fees. Also, if you made false representations on a loan application, you could face criminal charges.

How Can a Bankruptcy Attorney Help?

Going through bankruptcy as a small business owner can be overwhelming. A bankruptcy attorney can help take off some of the pressure. The last thing you want to do as a small business owner is put your personal property at risk of liquidation. An experienced business bankruptcy attorney can help you through bankruptcy while protecting your personal assets.

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