Bankruptcy vs. Offer in Compromise for SBA Debt.

I. Is Settlement Better Than Bankruptcy for SBA Debt When a Guaranty and Collateral are Involved?

II. Determining SBA Loan Guaranty Liability

III. Determining SBA Loan Guaranty Exposure

IV. Determining Which SBA Loan Settlement Strategy is Best for Individual Guarantors

V. Identifying SBA Loan Obligations for Business Entities

Proposed Article

Should You Settle SBA Debt or File for Bankruptcy When a Guaranty and Collateral are Involved?

For business entities and individual guarantors who have defaulted on an SBA loan, there is rarely a single “right” answer to the question of whether it is better to settle the debt or file for bankruptcy. As a result, determining the appropriate resolution strategy requires taking all relevant factors into account. These factors include:

1. The Ability to Resolve Collection Efforts Against Business Assets and Personal Guarantors

Depending on the circumstances involved, business entities and individual guarantors may face collection efforts from the SBA. When an SBA loan has been personally guaranteed, the SBA may have recourse to go after both the business assets and the individual guarantor. Personal guarantees are extremely common, and they often make business owners personally liable for loan payment.

For example, in one case involving two loan notes, the debtor’s personal guarantees amounted to $200,000. An SBA loan guaranty is a legal obligation to pay back the SBA when a borrower defaults on its obligations. It can make individual guarantors personally liable for repayment, and this can expose them to financial liability far in excess of what the business itself can afford to pay.

2. The Value of the Collateral at Issue

When evaluating the best strategy for resolving SBA debt, the value of the collateral involved is another important factor. If the SBA has secured the loan with collateral, it will need to sell the collateral in order to recover its losses. The value of the collateral can help creditors make decisions about whether it is better to settle the debt or foreclose on the collateral; it can also help individual guarantors make decisions about whether to settle their SBA debt or file for bankruptcy.

3. The Business’s Viability

Whether it makes sense to settle your SBA debt also depends on the viability of your business. If your business is still operating and generating revenue, it may make sense to negotiate a settlement so that you can keep your company afloat. On the other hand, if your business is no longer operational, you may not have the finances available to settle your SBA debt.

4. The Scope of the Guarantor’s Liability

The terms of a guarantor’s liability can also be an important factor when determining whether to file for bankruptcy or seek a settlement. Guarantors aren’t always liable for every dollar of the SBA loan’s principal balance, and this limitation may make it unfeasible for guarantors to seek a settlement.

When does Treasury referral turn SBA debt into a faster collection problem?

Referral to the Treasury may turn SBA debt collection into a faster and more efficient process. The Treasury has a variety of means available to collect outstanding debts, and this is often where the government uses the most leverage. Two examples of methods used to collect SBA debt after referral to the Treasury include:

1. The Treasury Offset Program

The Treasury Offset Program is one of the methods the government uses to collect outstanding debts after they have been referred to the Treasury. With this program, the government can intercept a former borrower’s federal benefit payments (e.g., Social Security benefits), federal tax refunds, and other federal payments, effectively cutting off their access to those funds before they receive them.

Another method the government uses to collect SBA debt after referral to the Treasury is administrative wage garnishment. This process is similar to a court-ordered wage garnishment. The Treasury can administratively garnish the wages of former borrowers who owe the government money, which limits their ability to pay for basic necessities such as housing and food.

While the Treasury has several means of collecting outstanding debts, there are cases involving SBA loans where litigation makes more sense. Lenders, the SBA, and the DOJ can all take legal action to recover their losses. Some of the steps in this process include:

• Lawsuits: Lenders, the SBA, and the DOJ can all file lawsuits to enforce guaranties and collect what is owed under SBA loans.
• Judgment Liens and Bank-Account Levies: If the government or a lender is successful in its lawsuit, it can use judgment liens and bank-account levies to collect what it is owed, where legally permitted.

2. The Treasury and Private Debt Collection Agencies

While the Treasury often takes lead in collecting SBA debt, this is not always the case. Depending on the circumstances, the Treasury may refer the collection of a debt to a private debt collection agency. This most commonly happens with smaller debts, but private collection agencies have a variety of methods at their disposal as well.

One additional issue to consider when seeking a settlement for SBA debt is the potential for the canceled debt to be treated as taxable income. For example, in many cases, the issuance of IRS Form 1099-C is necessary because debt cancellation can count as taxable income. This presents another challenge for taxpayers that is already financially struggling due to their business debt.

Spodek Law Group is a second generation New York firm. Todd Spodek practices out of the firm his father opened in 1976.

How Do SBA and Treasury Settlement Options Work After Default?

The SBA and Treasury Department both offer mechanisms for settling qualifying defaulted loans for less than their full balance. The Treasury’s offer-in-compromise program is one example of a settlement mechanism. Both settlement options allow borrowers and guarantors to resolve their outstanding SBA debt obligations by paying a fraction of the amount they owe.

When filing an offer in compromise, or OIC, submission, borrowers and guarantors must provide the financial documentation necessary to support the settlement amount they are proposing. This includes, but is not limited to, their income tax returns, financial statements, and other pertinent documents.

Like other forms of settlement, the risk of rejection is inherent. Filing an OIC submission does not guarantee a settlement, and the SBA or Treasury may reject an OIC submission for a variety of reasons. If an OIC submission is rejected, the government will continue its collection efforts. Borrowers and guarantors will be forced to evaluate alternative resolution strategies, which may include filing for bankruptcy.

When the government accepts an OIC submission, the settlement can reduce the amount of the principal balance, interest, penalties, and collection costs. For most borrowers and guarantors, this significantly reduces their financial burden. While this doesn’t completely erase the obligation to pay the SBA or Treasury, it comes close to achieving the same result in many cases.

Other settlement options include installment arrangements. With an installment arrangement, the government allows a borrower or guarantor to make monthly or semi-monthly payments over a specific period of time. Depending on the circumstances, this can significantly lower the amount of the payment by extending the period of time over which the borrower or guarantor is expected to make payments. While this option allows borrowers and guarantors to avoid the risk of rejection associated with the OIC process, it also requires continuing payment obligations that may be burdensome for some. Like all forms of SBA debt settlement, installment arrangements are approved on a case-by-case basis, and the government will not agree to such an arrangement in all cases.

Why Cannot a Bankruptcy Chapter Be Chosen from the SBA Loan Type Alone?

The choice of which bankruptcy chapter to file depends on several factors. Determining the best form of bankruptcy to pursue depends on a variety of factors, including:

• Amount of assets you currently own
• Current income (if any)
• Income earning potential
• Business structure (individual, partnership, corporation, etc.)
• Whether you are looking to shut down the business and obtain a bankruptcy discharge or if you are looking to keep the business open and restructure the business’s debts

While the type of SBA loan you have may be a factor that plays a role in determining the best bankruptcy strategy, it is not the single most important factor in all cases. The reason is that bankruptcy may allow a former borrower or individual guarantor to discharge or restructure a broad range of SBA loans. Therefore, while the specific loan you have may be important, the type of loan you have does not necessarily rule out one bankruptcy chapter over another.

For business owners, bankruptcy is not just about getting protection or a bankruptcy discharge. The process involves litigation, which provides various opportunities to challenge creditors’ claims. By challenging these claims, you can seek to avoid a judgment, reduce your liability, or force your creditors to accept a settlement. Many business owners use bankruptcy to resolve their SBA debt without having to settle directly with the SBA.

When determining your bankruptcy strategy, it is also important to distinguish between secured and unsecured claims. A secured claim is one where the lender has secured the loan with collateral. The presence of collateral allows the creditor to pursue more aggressive efforts to recover the loan’s principal balance and interest. On the other hand, unsecured claims do not involve collateral, and they are generally more susceptible to receiving a full discharge in bankruptcy.

While bankruptcy allows for the restructuring of payment obligations, there are certain limits to what can be accomplished. In some cases, it may not eliminate all personal liability related to an SBA loan guaranty. Instead of which bankruptcy chapter is best for an individual guarantor or business, you will also need to consider the specifics of your guaranty as well. At the end of the day, choosing a bankruptcy chapter should be based on the particulars of your situation rather than just the type of SBA loan you have.

Get Advice on Your Situation

If you want someone to look at the specifics of your case, Spodek Law Group handles federal criminal defense nationwide from New York and Los Angeles. The firm has been practicing since 1976 and its motto is simple: we owe loyalty to only you. Call 888 348 8028.