Different Types of Corporate Bankruptcies: A Complete Guide for U.S. Businesses

In the United States, businesses have three main bankruptcy options under federal law. Each type serves a completely different purpose, and choosing the wrong one can cost you everything.

Chapter 7 shuts your business down and liquidates assets to pay creditors. It’s the “pull the plug” option.

Chapter 11 keeps your doors open while you restructure debt and negotiate new payment terms. Think of it as a corporate makeover under court supervision.

Subchapter V (technically part of Chapter 11) is the streamlined version designed specifically for small businesses. It’s faster, cheaper, and way less complicated than traditional Chapter 11.

The choice between these options isn’t just legal mumbo-jumbo—it determines whether your business survives, how much creditors get paid, and what happens to employees, vendors, and anyone else depending on your company.

Chapter 7 Corporate Bankruptcy: When It’s Time to Close the Doors

Let’s start with the most final option. Chapter 7 bankruptcy means game over for your business.

How Chapter 7 Works

When a corporation files for Chapter 7, a court-appointed trustee takes control. This trustee’s job? Sell off everything the company owns—equipment, inventory, real estate, intellectual property—and distribute the cash to creditors according to a strict priority system.

Secured creditors (like banks with collateral) get paid first. Then comes the IRS if you owe taxes. Unsecured creditors like suppliers and vendors fight over whatever’s left, which often isn’t much.

The entire process typically wraps up in 4 to 6 months. After that, the corporation ceases to exist. There’s no coming back from Chapter 7.

Who Should Consider Chapter 7?

Chapter 7 makes sense when:

• Your business model is fundamentally broken and can’t be fixed
• Debts far exceed the value of assets
• Continuing operations would only dig a deeper hole
• There’s no realistic path to profitability

Restaurants that never recovered after the pandemic, retail stores crushed by e-commerce competition, construction companies that lost major contracts—these are classic Chapter 7 scenarios.

Important: Unlike individuals, corporations don’t get a “fresh start” after Chapter 7. The company disappears completely. Shareholders typically lose everything, and employees lose their jobs.

What Happens to Company Assets in Chapter 7?

Everything gets sold. The trustee liquidates all non-exempt assets (and corporations have very few exemptions). Office furniture, computers, vehicles, real estate, accounts receivable—it all goes on the auction block.

Secured creditors can repossess collateral if you’re behind on payments. The trustee handles everything else, distributing proceeds according to the bankruptcy code’s priority rules.

Chapter 11 Corporate Bankruptcy: The Reorganization Route

Now we’re talking about the bankruptcy option that lets businesses keep breathing. Chapter 11 is where companies restructure debt while continuing operations.

Understanding Chapter 11 Reorganization

Chapter 11 doesn’t mean closing up shop. Instead, the business operates as a “debtor in possession”—meaning management stays in control (usually) while developing a reorganization plan.

This plan outlines how the company will restructure debt, cut costs, renegotiate contracts, and eventually pay back creditors over time. The bankruptcy court must approve the plan, and creditors get a vote.

While in Chapter 11, an automatic stay stops most creditor collection actions. Your suppliers can’t sue you, the bank can’t foreclose (immediately), and you get breathing room to figure things out.

Major corporations use Chapter 11 all the time. Airlines, hotel chains, retailers—they file for Chapter 11, restructure their operations, and emerge as leaner companies. Some fail and convert to Chapter 7, but many succeed.

The Chapter 11 Process: What to Expect

Filing Chapter 11 kicks off a complex legal process:

1. Filing the petition with the bankruptcy court (corporations must use an attorney)
2. Automatic stay takes effect, stopping most collection actions
3. Creditors’ committee forms to represent unsecured creditors’ interests
4. Disclosure statement and reorganization plan get drafted
5. Creditor voting on whether to accept the plan
6. Court confirmation if the plan meets legal requirements
7. Plan execution over months or years

The whole process typically takes 6 months to 2+ years, depending on complexity. Large companies with thousands of creditors can spend years in Chapter 11.

How Chapter 11 Affects Creditors and Shareholders

Creditors get reorganized into classes (secured, priority unsecured, general unsecured). Each class votes on the reorganization plan. Secured creditors usually fare best since they hold collateral.

Unsecured creditors might receive partial payment over time, equity in the reorganized company, or both. Sometimes they get pennies on the dollar.

Shareholders? They usually get hammered. In many Chapter 11 cases, existing equity gets wiped out completely. When companies emerge from bankruptcy, shareholders often discover their stock is worthless.

But here’s the thing: Chapter 11 at least gives creditors and shareholders a chance at recovery. In Chapter 7, they’d likely get even less.

Subchapter V: Chapter 11 for Small Businesses

In 2020, Congress added Subchapter V to make Chapter 11 accessible for small businesses. It’s a game-changer.

What Makes Subchapter V Different?

Traditional Chapter 11 is expensive and complex—often costing hundreds of thousands in legal fees. Small businesses couldn’t afford it, so they either limped along or jumped straight to Chapter 7 liquidation.

Subchapter V fixes that problem. It’s a simplified reorganization process with:

• Lower costs: Fewer procedural requirements mean lower legal bills
• No creditors’ committee: Unless the court orders one
• Streamlined process: Typically wraps up in 3 to 6 months
• Debt limits: Available only to businesses with under $7.5 million in total debt (as of 2024)
• Owner flexibility: Owners can retain equity even without paying creditors in full

Think of Subchapter V as “Chapter 11 Lite”—same basic concept, but designed for businesses that can’t afford the full corporate bankruptcy experience.

Who Qualifies for Subchapter V?

You’ll need:

• Total debts under $7.5 million
• At least 50% of debts from business operations (not personal expenses)
• Status as a small business debtor

Most struggling small businesses in America—restaurants, retail shops, service companies, construction firms—fit these criteria perfectly.

Subchapter V vs. Traditional Chapter 11: The Key Differences

The cost and time savings alone make Subchapter V attractive for businesses that qualify. If you’re a small business owner considering bankruptcy, this should be your first look.

Can a Corporation Stay Open During Bankruptcy?

Short answer: It depends which bankruptcy you file.

Chapter 7? No. The business closes and assets get liquidated.

Chapter 11 and Subchapter V? Yes. The whole point is continuing operations while restructuring debt.

During Chapter 11 or Subchapter V, you keep running the business under court supervision. You’ll need court approval for major decisions like selling assets, taking new loans, or breaking contracts. But day-to-day operations continue normally.

Employees keep working. Customers keep buying. Vendors keep supplying (though you might need to pay new invoices promptly). The goal is maintaining business continuity while fixing the financial problems.

This is crucial because a functioning business is worth more than liquidated assets. If you shut down, creditors get pennies. If you reorganize successfully, everyone does better.

Which Corporate Bankruptcy Type Is Best for Your Struggling Business?

Here’s the practical breakdown:

Choose Chapter 7 if:

• The business can’t be saved
• You’re ready to close permanently
• Continuing operations loses more money
• No realistic reorganization plan exists

Choose Chapter 11 if:

• You want to keep the business operating
• Total debts exceed $7.5 million
• You need time to restructure and negotiate with creditors
• You can afford the legal fees (typically $200,000+)

Choose Subchapter V if:

• You want to keep operating
• Total debts are under $7.5 million
• You need affordable reorganization
• You want a faster, simpler process

Most small businesses should explore Subchapter V options before jumping to traditional Chapter 11. The cost savings alone can make the difference between survival and closure.

How Long Does Corporate Bankruptcy Take?

Timeline expectations:

Chapter 7: About 4 to 6 months from filing to closure. It’s the fastest option because there’s no reorganization—just liquidation and distribution.

Chapter 11: Anywhere from 6 months to 2+ years. Complex cases with multiple creditor classes and contested issues drag on longer. Large corporations sometimes spend years hammering out reorganization plans.

Subchapter V: Typically 3 to 6 months. The streamlined procedures significantly accelerate the timeline compared to traditional Chapter 11.

Remember, these are averages. Your specific situation might move faster or slower depending on creditor cooperation, asset complexity, and whether anyone contests your plan.

Do Businesses Need a Lawyer to File Bankruptcy?

Yes. Federal law requires corporations to be represented by an attorney in bankruptcy proceedings. You can’t file corporate bankruptcy pro se (representing yourself).

Why? Because corporate bankruptcy involves complex legal procedures, creditor negotiations, plan drafting, and court appearances. One mistake can sink your case or expose you to personal liability.

Budget for legal fees:

• Chapter 7: $3,000–$10,000 (relatively straightforward)
• Subchapter V: $50,000–$100,000
• Traditional Chapter 11: $200,000–$500,000+ (for complex cases)

These costs seem steep, but consider the alternative. Making errors in bankruptcy can cost far more than hiring competent legal representation. Find an attorney experienced in corporate bankruptcy—not just someone who handles personal Chapter 7 cases.

Understanding the Impact on Employees and Operations

When a corporation files bankruptcy, employees understandably freak out. Will they lose their jobs? Will paychecks bounce?

In Chapter 7, employees typically do lose their jobs when the business closes. They become creditors for any unpaid wages, but recovery rates are often low.

In Chapter 11 and Subchapter V, most employees keep working. The company continues operating, which means continued employment. However, bankruptcy might affect benefits, pension plans, or work conditions.

Some businesses use bankruptcy strategically to renegotiate union contracts, reduce benefits, or restructure operations. Not great for employees, but it beats everyone losing their jobs in liquidation.

What About Secured vs. Unsecured Creditors?

Understanding creditor priority is crucial in bankruptcy.

Secured creditors hold collateral—like a bank with a lien on your building or equipment. They get paid first from the collateral’s value. If you owe $500,000 on a building worth $600,000, the secured lender gets their $500,000 before anyone else sees a dime.

Priority unsecured creditors include the IRS (taxes owed), employees (unpaid wages), and certain other claims. They’re second in line.

General unsecured creditors—suppliers, vendors, credit card companies—get whatever’s left after secured and priority creditors are paid. Often, that’s not much.

This hierarchy explains why secured creditors rarely panic during bankruptcy. They’re protected by collateral. Unsecured creditors? They’re sweating bullets because they know they might get pennies on the dollar.

When negotiating debt settlement, understanding these priorities helps you determine realistic offers.

Can Small Businesses Use Chapter 13 Bankruptcy?

Generally no—Chapter 13 is for individuals, not corporations.

Only sole proprietors can potentially use Chapter 13, because legally there’s no separation between the individual and the business. If you’re a sole proprietor struggling with business and personal debt, Chapter 13 might work.

But if your business is incorporated (LLC, S-corp, C-corp, partnership), you can’t use Chapter 13. Your options are Chapter 7, Chapter 11, or Subchapter V.

This distinction matters because Chapter 13 is much simpler and cheaper than Chapter 11. Sole proprietors have more flexibility in choosing the right bankruptcy path.

Alternatives to Corporate Bankruptcy

Before filing bankruptcy, consider alternatives:

Out-of-court workouts: Negotiate directly with creditors for payment plans or debt reduction. It’s faster, cheaper, and less damaging than bankruptcy.

Debt consolidation: Consolidate multiple debts into a single loan with better terms. This works if you can qualify for new financing.

Business restructuring: Cut costs, sell non-essential assets, renegotiate contracts, or change your business model without court involvement.

Asset sales: Sell part of the business to raise cash and pay down debt.

Equity investment: Bring in new investors to inject capital.

These alternatives avoid bankruptcy’s stigma and costs. But they require creditor cooperation and viable business operations. If creditors won’t negotiate or the business is fundamentally broken, bankruptcy might be the only realistic option.

The Stigma of Corporate Bankruptcy: Is It Really That Bad?

Let’s address the elephant in the room. Bankruptcy carries stigma—there’s no denying it.

But corporate bankruptcy is surprisingly common. Thousands of U.S. businesses file every year. Major corporations you know and love have been through Chapter 11 and emerged stronger.

The key is understanding bankruptcy as a legal tool, not a moral failure. Sometimes market conditions change, unexpected disasters hit, or business decisions don’t pan out. Bankruptcy provides a legal framework for dealing with overwhelming debt when other options fail.

For small business owners, remember: corporate bankruptcy doesn’t necessarily ruin your personal credit (unless you’ve personally guaranteed business debts). The corporation is a separate legal entity. Its bankruptcy is separate from your personal financial situation.

That said, bankruptcy does impact future borrowing ability, vendor relationships, and business reputation. Weigh these consequences carefully against the alternative of drowning in unpayable debt.

Making the Right Choice for Your Business

Choosing between different types of corporate bankruptcies isn’t a decision to make lightly or quickly.

Start by honestly assessing your situation:

• Is the business salvageable or fundamentally broken?
• Can you afford Chapter 11 or Subchapter V costs?
• Will creditors cooperate with reorganization?
• Are there assets worth preserving?
• What happens to employees if you liquidate?

Consult with a bankruptcy attorney experienced in corporate cases. They’ll review your finances, explain options, and help you choose the best path forward.

Also consider talking to an accountant about tax implications and a business consultant about operational restructuring. Bankruptcy is just one piece of the puzzle—you’ll need a comprehensive strategy.

The Bottom Line

Different types of corporate bankruptcies serve different purposes. Chapter 7 liquidates and closes the business. Chapter 11 reorganizes while keeping operations running. Subchapter V provides affordable reorganization for small businesses.

The right choice depends on your specific situation: debt level, business viability, asset value, and financial resources. There’s no one-size-fits-all answer.

What matters most is acting before it’s too late. Waiting until you’ve burned through every asset and alienated every creditor leaves you with fewer options and worse outcomes.

If your business is struggling with overwhelming debt, talk to a qualified bankruptcy attorney now. Understanding your options—and choosing wisely—might mean the difference between closing forever and restructuring for success.

Remember: bankruptcy isn’t the end. For many businesses, it’s the beginning of a smarter, leaner, more sustainable future.

Looking for more financial guidance? Explore comprehensive resources on debt management, business loans, and financial planning at Wealthopedia.