Small business owners often rely on loans to keep their businesses afloat. The Small Business Administration (SBA) provides loans to help small businesses grow and succeed.
However, sometimes unforeseen circumstances occur, and business owner find them unable to repay their SBA loan.
In such situations, filing for personal bankruptcy may seem like the only option. But can you discharge an SBA loan if you file for bankruptcy?
A Quick Overview
An SBA loan is a loan provided by the Small Business Administration. The SBA is a government agency that provides loans to small businesses that cannot obtain financing on reasonable terms from traditional lending institutions.
Moreover, the SBA loan program is designed to help small businesses succeed by providing them with access to capital. SBA loans are typically provided through banks and other financial institutions that participate in the SBA program.
Types of SBA Loans
The SBA provides various types of loans to small businesses. The most common types of SBA loans are 7(a) loans, CDC/504 loans, and microloans.
- 7(a) loans are the most basic and most used type of SBA loan.
- CDC/504 loans are designed to finance the purchase of fixed assets, such as land and buildings.
- Microloans are smaller loans that are typically used to finance working capital or the purchase of inventory, equipment, or supplies.
SBA Loan Default and Bankruptcy
SBA loans can be discharged in bankruptcy, but there are certain requirements that must be met.
In general, SBA loans are considered to be unsecured debts in bankruptcy, meaning that they are not backed by collateral.
Unsecured debts are dischargeable in bankruptcy, meaning that the debtor is released from any personal liability for the secured debt or unsecured debt. However, there are exceptions to this rule, which we will discuss later in this article.
Bankruptcy Chapters and SBA Loan Discharge
There are two types of bankruptcy that are available to small businesses: Chapter 7 and Chapter 11 bankruptcy.
In Chapter 7 bankruptcy, the debtor’s assets are liquidated, and the proceeds are used to pay off creditors. If the debtor has no assets, the business debt is discharged. SBA loans can be discharged in Chapter 7 bankruptcy if they meet the requirements for discharge.
In Chapter 11 bankruptcy, the debtor develops a reorganization plan to repay its SBA debt over time. The plan must be approved by the bankruptcy court and the debtor’s creditors. SBA loans like government loans can also be discharged in Chapter 11 bankruptcy if they meet the requirements for discharge.
Requirements for Discharging SBA Loans in Bankruptcy
To discharge a loan in bankruptcy, the debtor must meet certain requirements. First of all, the debtor must show that repayment of the loan would cause undue hardship. Undue hardship is a difficult standard to meet, and it requires the debtor to show that it cannot maintain a minimal standard of living if it is forced to repay the loan.
In order to have their SBA loan discharged in bankruptcy, the debtor must provide evidence that they have acted in good faith and made a genuine attempt to repay the loan.
Furthermore, the debtor must show that it has no reasonable prospect of repaying the loan in the future. This means that the debtor must show that it is unlikely to be able to pay off the loan in the future, even if its financial situation improves.
Exceptions to Discharging SBA Loans in Bankruptcy
There are some exceptions to discharging an SBA in personal or business bankruptcy. For example, if the SBA loan is secured by collateral, the debtor may be required to surrender the collateral to the lender.
Additionally, if the debtor committed fraud in obtaining the loan, the loan may not be dischargeable in bankruptcy.
Impact of Discharging an SBA Loan on Your Credit
Discharging a loan in bankruptcy can have a significant impact on your credit score. Bankruptcy remains on your credit report for up to 10 years, and it can make it difficult to obtain credit in the future.
Additionally, creditors may view bankruptcy as a sign that you are not financially responsible.
Alternatives to Discharging a Loan
If you are struggling to repay your SBA, there may be alternatives to discharging the loan in bankruptcy. For example, you may be able to negotiate a repayment plan with the lender or refinance the loan with a different lender.
You may also be able to sell personal assets or business assets to repay the loan or find other sources of financing.
The Role of a Personal Guarantee
When you apply for a loan, you might be asked to sign a personal guarantee. This is a legally binding document that makes you personally responsible for repaying the loan if your business defaults. It’s a lender’s security interest, a way to hedge their bets.
If you’re considering bankruptcy to discharge an SBA, consult an experienced bankruptcy attorney. They can guide you through the complexities of how a personal guarantee affects your bankruptcy options.
Federal Agency Involvement: What You Need to Know
The SBA is a federal agency, which adds another layer of complexity when you’re trying to discharge an SBA loan through bankruptcy. Federal agencies have their own set of rules and regulations, separate from standard creditors. This could affect the dischargeability of your loan, especially if you’ve defaulted. Again, an experienced bankruptcy attorney can help you navigate these waters.
Income Tax Refunds and SBA Loans
You might be wondering, “What do income tax refunds have to do with SBA loans?” Well, if you’re expecting a sizable tax refund, that could be used to offset your loan debt. Some people use their income tax refunds as a form of repayment. However, if you’re filing for bankruptcy, the court might seize your tax refund to pay off your creditors, including the SBA. So, think twice before you count on that refund to bail you out.
The Importance of Legal Advice
Filing for bankruptcy is a complex process, especially when federal agencies like the SBA are involved. I can help you understand your options and the potential consequences, including how your personal guarantee and income tax refunds might be affected. I can also help you explore alternatives to bankruptcy, like negotiating with your lender. Contact me today!
