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Starting a business after bankruptcy requires extra effort

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jennifer m schank

Jennifer M. Schank | Johns, Flaherty & Collins SC

Personal bankruptcy is designed to give people a fresh start. Whether filing a Chapter 7 to eliminate debt or a Chapter 13 to develop a repayment plan, the process halts collection activity and pending lawsuits and reduces financial stress. It relieves people of unsustainable debts.

If you’re looking to start a business, the promise of a fresh start may not be fully realized, but that doesn’t mean you can’t or shouldn’t try. A new business is certainly possible; no rule says you can’t do it. You’ll just have to work harder.

The main issue you’ll face will be obtaining credit. Historically, bankruptcy shows on credit reports for 10 years and lowers your credit score. (Though recently, with the state of our economy and the increased frequency of bankruptcy, it can shed its damaging effect in just three to four years.) Creditors have access to that information, and it may affect whether and how much start-up money they will lend.

Some people look for co-signers in order to get business loans. Opinions vary as to whether that’s a good decision because you’re essentially obligating someone else on something uncertain.

Others seek out secured credit cards where they pledge their vehicle, for example, as collateral. The problem there is that you’re mixing your personal assets with your new business. That’s not always advisable when you truly are looking for a fresh start.

In the end, business financing decisions will require personal choices about what you’re willing to put on the line to make your business succeed. Your best option is to do the work and research different lenders and options. You’ll need to find a lender who is willing to take a risk and give you a business loan to get you going.

You’ll probably still be personally guaranteeing the loan (and if you’re married, your spouse will, too). Lenders want personal guarantees and will take a secured interest in business assets. That is a risk you will want to assess in deciding whether starting a new business is a viable option.

To keep your business and personal assets separate, you’ll need to set up your business as its own legal entity (e.g., a corporation, limited liability company, limited liability partnership). That can help you protect your personal assets and limit your personal obligations for a business loan.

If you’re looking for a business lender after personal bankruptcy, you can increase the odds of lenders saying yes by having a solid business plan that includes firm numbers. Show how you can make the business happen, detailing everything from industry, competitive and customer analyses to marketing, management and operational plans. You may also want to include an explanation of your circumstances and why a bankruptcy was necessary. This section can explain why you are not a threat to the lender. The Small Business Development Center at the University of Wisconsin–La Crosse can be an excellent resource for help in developing a business plan.

When you’re ready to look for financing, check out these possibilities:

Government loan programs — Government loan programs often offer better rates and can be easier to obtain. In fact, many of them are designed for people who have credit problems, including bankruptcy. Again, the Small Business Development Center at UW-L is a good local resource for learning more about these options.

Farm Service Agency loans — The FSA provides loans to family-size farmers and ranchers who can’t obtain commercial credit from a bank, Farm Credit System institution or other lender.

Local lenders — Smaller, locally owned banks and credit unions can be another good resource. They’re more likely to take time to examine your business plan, and they often have a better understanding of the local market and risk.

Investors — Again, family or friends are an option, but if you think about what happens to them if the business fails, you’ll probably want to keep looking. Angel investors are a better option. Angel investors will invest their own private capital, and their investments sometimes may be as high as $500,000. Venture capitalists are also a possibility (they tend to invest at higher rates, around $500,000 to a few million), but you’ll have less flexibility and likely need better credit to go that route.

If you do get a loan, be sure to make all payments on time to build a good credit history for your business.

Before you start a new business, and especially before you seek financing, think through the consequences. If your business fails, you may be personally liable for its debts, and you won’t be eligible to file bankruptcy again for another six to eight years. The key is to assess why you were in bankruptcy and take appropriate actions to avoid financial downfall in the future.

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