When an LLC files Chapter 7 bankruptcy, the business is permanently liquidated: a court-appointed trustee sells everything the company owns, pays creditors in the order federal law requires, and the LLC ceases to operate. The company itself receives no discharge, because under 11 U.S.C. § 727(a)(1) only individuals do.1Office of the Law Revision Counsel. 11 USC 727 – Discharge In practice that rarely matters for the entity, because a dissolved company with no assets has nothing left for creditors to collect. It matters enormously for the people behind it.
The LLC Gets No Discharge, and Why That Usually Doesn’t Matter
A discharge is the court order that legally erases the obligation to repay debts. Individuals get one at the end of Chapter 7. An LLC does not. Its debts technically survive the case, but because the entity is liquidated out of existence, creditors have nothing to pursue against the company itself.
There is also no exemption system for an LLC. An individual filer can shield a home, a car, or a retirement account. An LLC shields nothing. Equipment, inventory, receivables, intellectual property, cash in the bank — all of it goes into the bankruptcy estate for the trustee to sell.
That framing is why some people say an LLC doesn’t “need” a discharge. It’s also why owners often misread what Chapter 7 does for them. The filing wraps up the company. It does not, by itself, protect the individuals who ran it or signed for it.
What Can Still Follow the Owners Personally
This is the part that blindsides most small-business owners. Three categories of business debt routinely survive the LLC’s Chapter 7 and land on the members.
Personal Guarantees
Most small-business lending involves a personal guarantee. A guarantee is a separate contract between the guarantor and the creditor, so the LLC’s bankruptcy does nothing to erase it. The automatic stay under 11 U.S.C. § 362 freezes collection against the LLC, but it does not extend to individual guarantors unless they file bankruptcy personally.2Office of the Law Revision Counsel. 11 USC 362 – Automatic Stay Creditors know this. They typically pivot to the guarantor the moment the business petition is filed.
To wipe out a personal guarantee, the guarantor has to file an individual bankruptcy. Some owners run the business Chapter 7 and a personal Chapter 7 in parallel, but they are distinct cases with distinct rules.
Unpaid Payroll Taxes
Under 26 U.S.C. § 6672, the IRS can assess the Trust Fund Recovery Penalty against any “responsible person” who willfully failed to collect or pay over withheld employment taxes.3Office of the Law Revision Counsel. 26 USC 6672 – Failure to Collect and Pay Over Tax The penalty equals 100% of the unpaid trust fund taxes, and the IRS collects it from the individual, not the LLC.
“Responsible person” reaches anyone with authority over the company’s financial decisions: owners, managers, sometimes bookkeepers. “Willfully” doesn’t require intent to defraud. Knowing the taxes were due and paying other bills instead is enough. Once assessed, the IRS can lien personal property and garnish wages, and these trust fund liabilities are generally not dischargeable even in a personal bankruptcy.
Veil-Piercing
If the LLC was run loosely — personal and business funds mixed, no separate books, the company treated as a personal account — creditors can argue the liability shield should be disregarded. Courts call this piercing the veil, and it puts the LLC’s debts on the members directly. Standards vary by state, but commingling funds and inadequate capitalization are the most common triggers.
How the Case Actually Runs
An LLC files using the non-individual bankruptcy forms, the 200 series rather than the 100 series used by individuals.4United States Courts. Instructions for Bankruptcy Forms for Non-Individuals The case opens with Official Form 201, the Voluntary Petition for Non-Individuals, which collects the tax ID, principal asset location, and estimated liabilities.5United States Courts. Voluntary Petition for Non-Individuals Filing for Bankruptcy Along with the petition, the LLC files schedules of assets, secured and unsecured creditors, executory contracts and leases, and codebtors, plus a Statement of Financial Affairs (Form 207) covering recent income, transfers, lawsuits, and payments to insiders. Everything must match the company’s internal records. Discrepancies invite trustee scrutiny and, in serious cases, fraud allegations.
The filing fee is $338, covering the court fee, administrative fee, and trustee surcharge. LLCs cannot request a waiver or installments.
The Automatic Stay
The petition triggers the automatic stay under § 362, which halts virtually all collection activity against the LLC: lawsuits, repossessions, lien enforcement, collection calls. That freeze gives the trustee time to inventory and sell assets in an orderly way. The stay protects the LLC only. Guarantors and responsible persons remain exposed.
The 341 Meeting
Within roughly 30 to 45 days after filing, a responsible officer of the LLC has to appear at the Meeting of Creditors under 11 U.S.C. § 341, with the LLC’s attorney present.6Office of the Law Revision Counsel. 11 US Code 341 – Meetings of Creditors and Equity Security Holders The officer testifies under oath about the accuracy of the schedules and the location of assets. Creditors may attend and ask questions about operations, recent transactions, or specific debts.
What the Trustee Can Unwind
The trustee’s job is to find every asset, convert it to cash, and distribute the proceeds. The unexpected leverage lies in the ability to reach back before the filing date and claw money or property back into the estate.
Preferences
Under 11 U.S.C. § 547, the trustee can reverse payments the LLC made to creditors shortly before filing if the payment gave that creditor more than it would have received through the normal Chapter 7 distribution.7Office of the Law Revision Counsel. 11 USC 547 – Preferences The lookback is 90 days for ordinary creditors and one year for insiders such as members, managers, and their relatives.
A typical scenario: the LLC pays off a favored vendor, then files two months later. The trustee can sue to recover that payment and spread it across all creditors. Defenses exist, including the ordinary-course-of-business defense, but preference actions catch a lot of counterparties off guard.
Fraudulent Transfers
Under 11 U.S.C. § 548, the trustee has a two-year lookback for fraudulent transfers.8Office of the Law Revision Counsel. 11 USC 548 – Fraudulent Transfers and Obligations Two flavors matter. Actual fraud covers transfers made with intent to hinder or cheat creditors. Constructive fraud covers transfers where the LLC was insolvent and did not receive reasonably equivalent value in return. Selling a $50,000 piece of equipment to the owner’s spouse for $5,000 six months before filing is exactly the transaction a trustee is trained to find and reverse.
Who Gets Paid, and in What Order
Distribution follows a strict priority under 11 U.S.C. §§ 507 and 726. In most LLC liquidations there isn’t enough to pay everyone, so the order determines who gets meaningful recovery and who gets pennies.
- Secured creditors are paid first, out of the specific collateral securing their claims.
- Priority unsecured claims come next in the order § 507 lays out: administrative expenses of the bankruptcy case, unpaid employee wages up to $15,150 per employee earned within 180 days before filing, employee benefit plan contributions, and certain taxes owed to government agencies.9Office of the Law Revision Counsel. 11 US Code 507 – Priorities
- General unsecured creditors — trade vendors, credit card companies, others without collateral or priority — split what remains, pro rata.10Office of the Law Revision Counsel. 11 USC 726 – Distribution of Property of the Estate
- Penalties and post-filing interest come last.
If anything is left after every creditor is paid in full, which is rare, the surplus goes to the LLC’s members by ownership interest.
Tax Consequences for the Members
Debt cancellation is normally taxable income to the debtor. For a pass-through LLC, that income can flow to the members’ individual returns. Two exclusions typically prevent a tax hit here.
Under 26 U.S.C. § 108(a)(1)(A), debt discharged in a Title 11 bankruptcy case is excluded from gross income.11Office of the Law Revision Counsel. 26 USC 108 – Income From Discharge of Indebtedness Separately, a taxpayer who was insolvent when the debt was cancelled can exclude the cancelled amount up to the extent of insolvency.12Internal Revenue Service. What if I am Insolvent? An LLC entering Chapter 7 almost always has liabilities exceeding assets, so one or both exclusions usually apply.
Claiming the exclusion requires IRS Form 982 (Reduction of Tax Attributes Due to Discharge of Indebtedness). The exclusion reduces certain tax attributes such as net operating loss carryforwards, so part of the benefit is deferred rather than free. The calculations are technical, and getting Form 982 wrong can create problems that surface years later. A tax professional experienced with pass-through liquidations pays for itself here.
Getting Authorization to File
Before the petition can be filed, someone must have authority to file it. Authority comes from the LLC’s operating agreement and applicable state law. Many operating agreements require a majority vote of the members; some require unanimous consent. If the agreement is silent, most state LLC statutes default to member approval for extraordinary actions like a bankruptcy filing. A petition filed without proper authorization can be dismissed, so this step is worth confirming with counsel before any forms are prepared.
What Happens After the Case Closes
When the trustee finishes selling and distributing, the court closes the case. The LLC has no assets, no operations, and no discharge. The debts are technically still outstanding, but the entity has nothing left to satisfy them.
Closure is not dissolution. Most states require a separate filing to formally dissolve the LLC under state law, and the bankruptcy case does not cancel the LLC’s state registration. Skipping this step lets state franchise taxes, annual report fees, and penalties keep accruing against a shell that no longer does anything. Formal dissolution filing fees typically run from $0 to $60 depending on the state. Small administrative step, surprisingly common miss.
Alternatives Worth Considering Before Liquidating
Chapter 7 is final. Once it starts, the company is shutting down. Two alternatives are worth understanding before committing.
Subchapter V of Chapter 11 is a streamlined reorganization designed for small businesses. It lets the LLC propose a repayment plan, keep operating, and emerge as a going concern. There is no creditor committee requirement, only the debtor can propose a plan, and the plan is due within 90 days of filing. The debt limit for eligibility has moved in recent years, so anyone considering this route should confirm the current threshold with an attorney or the local bankruptcy court.
An assignment for the benefit of creditors is a state-law alternative. The LLC transfers all of its assets to a third-party fiduciary who liquidates them and distributes the proceeds. It happens outside bankruptcy court and typically moves faster with less procedural overhead. The trade-offs are less court oversight, no automatic stay, and no federal preference or fraudulent transfer avoidance powers. ABCs work best when the liquidation is clean and the parties are cooperative.