Restructuring Debt After a Business Partnership Split and Dissolution

Restructuring Debt After a Business Partnership Split and Dissolution

Ending a business partnership can be messy, especially when there are outstanding debts and unresolved financial obligations. When partners go their separate ways, they need to take steps to properly dissolve the partnership and restructure or divide up existing debts. This process gets even more complicated if the split is acrimonious or partners cannot agree on how to handle shared liabilities.

In this article, we’ll walk through some of the key issues and steps involved in restructuring debt after dissolving a business partnership.

Communicating With Creditors

One of the first things partners should do is notify all creditors and vendors that the partnership is dissolving. This includes banks, suppliers, landlords, contractors, and anyone else the business owes money to.

Send formal written notice that the partnership is dissolving as of a certain date and that the business will no longer be operating. Explain who creditors can contact going forward regarding payment of outstanding debts. This helps avoid any confusion down the line when creditors try to collect on obligations.

Paying Off Joint Debts

Ideally, the dissolving partners will agree on how to allocate responsibility for paying off any remaining partnership debts. This is outlined in a separation agreement (more on this later).

If there are sufficient partnership assets, joint debts can be paid off as part of winding down operations. However, partners usually need to contribute their own money to pay off creditors if partnership assets are insufficient.

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Partners should prioritize paying off business-related debts first before addressing any debts owed personally between partners. For example, if Partner A loaned the business $50,000, and the business owes vendors $100,000, the vendors should get paid first.

Transferring Accounts and Contracts

An important part of the dissolution process is transferring any active partnership accounts or contracts to the remaining partners who will continue using them. For example, if Partner A is taking over the business, utility accounts, business credit cards, and vendor contracts should be transferred to Partner A.

Any joint accounts that are being closed should have auto-payments and recurring charges stopped. Account holders should be removed as authorized users on accounts that are being transferred to one partner.

Filing for Bankruptcy

If the business debts are too substantial for partners to pay off with business or personal assets, filing for bankruptcy may be an option. This allows the business to liquidate assets, restructure debts, and pay creditors over time through a court-supervised process.

The partnership can file for Chapter 7 bankruptcy to liquidate assets and close down the business. Any remaining debts would be discharged, with some exceptions. Partners’ personal assets are usually protected.

Alternatively, the partnership could file for Chapter 11 bankruptcy to reorganize debts and develop a court-approved repayment plan. This allows the business to continue operating.

Separation Agreement

A key step in the dissolution process is partners signing a separation agreement outlining how remaining assets, debts, contracts, and other obligations will be divided up or transitioned.

This agreement should identify who will pay off specific partnership debts and liabilities, whether through one partner assuming responsibility or joint contributions. It provides clarity so former partners can’t come after each other down the road.

Without a separation agreement, partners remain jointly liable for partnership obligations that existed at dissolution. This applies even if one partner agrees to take over certain debts.

Restructuring Personal Loans

If partners have made personal loans to the business, these can be restructured as part of the separation agreement. For example, partners could agree to forgive loans or convert them to equity interests in any business that will continue operating.

Alternatively, repayment plans can be arranged, such as one partner assuming the loan repayment obligation or structuring installment payments over time.

Dividing Collateralized Assets

Any partnership assets used as collateral for loans will need to be divided up and transitioned through the separation agreement. This ensures the partner retaining the collateralized asset continues making payments, so the lender doesn’t seize the asset.

For example, if a piece of equipment was used as collateral for a business loan, the partner keeping the equipment should refinance the loan in their own name or take over payments.

Restructuring Personally Guaranteed Debts

If any partner has personally guaranteed partnership debts, these obligations need to be addressed in the separation agreement. The partner can seek release from the guaranty with creditor consent. Or the responsible partner can reaffirm their commitment to repaying the guaranty.

Ideally, the partner who will benefit from the debt should take it over and hold the other partner harmless for personally guaranteed obligations.

Consulting Professionals

Dissolving a partnership and restructuring debt can involve legal and tax complexities. Hiring professionals can help ensure the process goes smoothly.

An attorney can draft the separation agreement and provide guidance on debt allocation, while an accountant can assist with tax filings and advise on the financial split. A business valuation expert can assess and divide partnership assets.

If bankruptcy is involved, hiring a qualified bankruptcy attorney is essential to navigate the process.

Winding Down Operations

As part of dissolving the partnership, remaining business operations need to be wound down or transferred to any partner who will continue the business. This involves terminating leases, liquidating inventory and assets, closing accounts, and transitioning intellectual property.

Any outstanding client projects or work should be completed, or clients should be notified of the dissolution.

Filing Dissolution Paperwork

To finalize the partnership dissolution, certain paperwork must be completed:

• File a statement of partnership dissolution with the state to give public notice the partnership no longer exists.
• Submit a final tax return to the IRS, along with final required payroll tax filings.
• Cancel any business licenses, permits, and registrations. Notify relevant state agencies.
• Dissolve the business entity by filing articles of dissolution with the state if the partnership was organized as an LLC, corporation, etc.

Transitioning to a New Chapter

Ending a partnership can be an emotional process, especially for relationships with a long history. Partners may need to mourn the loss of a business they built together.

But addressing the financial and legal details thoroughly allows both parties to move forward. Once debts are restructured and outstanding obligations resolved, former partners can focus on their next chapter, whether that means launching a new venture, joining a new partnership, or pursuing individual projects.

With some care and communication, business partners can dissolve a partnership while preserving their financial health and laying the groundwork for future success on their own.