Several years ago, you took out a COVID EIDL loan to keep your business alive. Maybe it worked for a while. Maybe the business did not make it. Either way you may be burdened with a debt you cannot pay, and you just received a letter telling you the clock is running and threatening you with onerous collection action by the SBA, Department of Department of Treasury or an authorized collection agency.
What many people in this situation do not realize is that bankruptcy can stop federal collection activity the day they file and, depending on how the loan was structured, may eliminate personal liability entirely. If you are struggling with debt or facing collection efforts, a Warren, MI bankruptcy lawyer can review your circumstances and help you understand your available options.
What Happens When You Default on an EIDL Loan
When you stop making payments on a COVID EIDL loan, the SBA sends a formal demand letter giving you 60 days to respond. Sometimes that notice is merely deposited on the SBA’s portal and you may not have actually received a written copy. Regardless, that window closes faster than most people expect.
If you do not resolve the default within that period, the SBA refers the debt to the U.S. Department of the Department of Treasury for collection. The Department of Treasury then adds penalties that can reach 30% or more and which are added to the outstanding balance you already owe. From there, the Department of the Department of Treasury is statutorily authorized to collect the enlarged debt without a court order. It can garnish your bank accounts, wages, intercept your tax refund, and offset certain federal payments, often without advance notice. Most borrowers find out it is happening when money they were counting on does not show up.
Are You Personally on the Hook?
If your total borrowings were $200,000 or less, there was no personal guarantee. The debt belongs to the business. But if you did not sign in a representative capacity, meaning you signed as yourself rather than on behalf of a corporation or LLC, you may be personally liable for the entire debt regardless of the amount.
Any loan originally over $200,000 or subsequently amended to that amount, required a personal guarantee. That means the SBA can come after your business and you personally, garnishing wages, bank accounts, and tax refunds regardless of what happened to your business.
Loans between $50,001 and $200,000 typically came with a lien on business assets but no personal guarantee. All loans above $25,000 were secured by an “all asset” lien on behalf of the SBA. Pull out your loan documents and find out exactly what you signed before you do anything else. A lien means, in general terms, that any proceeds from the assets that are subject to the SBA’s security agreement belong to the SBA. If you sell those assets without remitting the resulting funds to the SBA you are in violation of your Security Agreement.
What Bankruptcy Does to EIDL Debt
Many people assume that because the SBA is a federal agency, bankruptcy cannot reach the debt. That is not how it works. EIDL loans have no special exemption under the bankruptcy code. Courts treat them like any other debt.
If you personally guaranteed the loan, Chapter 7 bankruptcy can discharge that personal liability. The day you file, an automatic stay goes into effect and all collection stops immediately, including any Department of Treasury action already in progress against the personal guarantor. The automatic stay does not apply to your corporation or limited liability company, however, so if collection has begun against your open and running business, Chapter 7 will only stop collection actions against you personally, not your business.
Chapter 13 allows individuals to restructure and repay an amount determined in the the Chapter 13 over three to five years while the stay holds creditors off. Your situation may dictate that you file a Chapter 13 as opposed to a Chapter 7. You must consult with counsel to determine which personal bankruptcy, Chapter 7 or Chapter 13, is appropriate for you.
Bankruptcy discharges personal liability but does not automatically remove a lien on property. If the SBA holds a lien on business assets, that claim survives unless the case addresses it directly. Selling business assets without SBA approval can have serious consequences.
Chapter 11 for Businesses and Individuals With Larger Debt
For businesses still operating that need to restructure EIDL debt while keeping the doors open, Chapter 11 or Chapter 11, Subchapter V reorganization may be the right fit. These chapters allow a business to propose a repayment plan, address liens on assets, and continue operating under court protection.
Subchapter V offers a streamlined and less costly path for small businesses. Chapter 11 is also available to individual debtors who do not qualify for Chapter 13 due to higher debt levels. If your EIDL obligation is large and you are personally on the hook, an attorney can help you evaluate whether reorganization makes more sense than a straight discharge.
What About an Offer in Compromise?
The SBA Offer in Compromise program allows some borrowers to settle for less than the full amount owed. In the right situation it can be a legitimate option. The SBA has a stated policy of not negotiating settlements while the borrowing business is still operating. So, you must close your business before the SBA will consider any form of Offer in Compromise.
The challenge with COVID EIDL loans specifically is that approvals can be difficult to achieve and the process is slow. Filing an OIC does not pause the collection while you wait for an answer. Whether it makes sense depends on your specific loan, your financial situation, and what the SBA is likely to accept. It is worth discussing with an attorney before you file anything.
Do Not Wait for the 60 Days to Run Out
If you have received a demand letter, you may have 60 days. After that the file goes to the Department of Treasury, the penalties stack up, and the tools the government uses to collect get harder to defend against.
People lose tax refunds and take wage garnishments because they waited to see what would happen. Nothing good happens when you wait. Pull out your loan documents, find out what you personally guaranteed, and talk to legal counsel before that window closes.
Gudeman & Associates, P.C. works with individuals and business owners throughout Michigan and neighboring states with respect to COVID EIDL debt and bankruptcy. Call 248-546-2800 to schedule a no obligation consultation.
