Restaurant Closings in New York City and Bankruptcy

Restaurant Closings in New York City and BankruptcyAs reported by many newspapers and websites, a significant number of restaurants are closing in New York City. These closings are due to the high cost of rent, insurance,  overhead and the increase in the minimum wage to $15 per hour for the restaurant staff. A restaurant consultant who meet with me stated that a Ray Kroc associate told an individual not to open a restaurant unless they were prepared to clean the bathroom and wipe the floor themselves due to the thin margins in many restaurants. At Shenwick & Associates,  we have seen a significant uptick in bankruptcy filings by restaurant and restaurant owners and we have developed a legal strategy to deal with these situations.We focus on the financial issues related to the restaurant first and then to the owner of the restaurant second. Most restaurants are owned by LLC or Subchapter S corporations. We first  review the assets and liabilities for the restaurant and a recent budget showing revenue and expenses for the year to date. We review that information with  the owner and determining whether the restaurant should  close or file for bankruptcy and we then focus on issues related to the owner of the restaurant.Restaurants are eligible to file for chapter 7 or chapter 11 bankruptcy. Chapter 7 is a liquidation where the restaurant is closed or chapter 11 is a reorganization where the business can attempt to reorganize its debts. In the Southern and Eastern District of New York (Manhattan, Brooklyn, Queens and Nassau county)  historically on average only one out of 10 businesses are able to successfully reorganize (file and confirm a chapter 11 plan of reorganization). There are many reasons for the low percentage of success, but many of those factors related to the cost and expense of filing chapter 11 bankruptcy and the inability to obtain financing and capital from third parties or banks.The option that most restaurant owners face is  either to close the restaurant or file Chapter 7 bankruptcy for the LLC or S Corporation that owns the  restaurant. In Chapter 7 bankruptcy a bankruptcy trustee closes the restaurant and liquidates any inventory, furniture fixture or equipment and attempts to collect accounts receivable. The chapter 7 trustee then takes those monies, if any  and distributes them to creditors after paying legal fees and court costs.It's the restaurant does not have significant amounts of furniture fixture or equipment or accounts receivable, the owner may be better off closing the restaurant itself and selling or auctioning off any furniture fixture and equipment and attempting to collect its own accounts receivable. Additionally, if the restaurant lease has a term of 3 years or more and is below market the restaurant owner may be able to assign (sell) the lease to a 3rd party. A Chapter 7 bankruptcy trustee is permitted to bring lawsuits to  recover monies that may have been paid to third parties ( preference actions)  or recover money or property paid to a third party ( fraudulent conveyance actions)  and the bankruptcy trustee will want to review the books and records for the restaurant, its checking account  and tax returns. The owner of the restaurant will have to go to one meeting at the courthouse (called the 341 hearing) and cooperate with the bankruptcy trustee. These factors often affect whether a restaurant will file for chapter 7 bankruptcy or just close.Notwithstanding the fact that the restaurant is owned by an LLC or Subchapter S corporation, members of the LLC, including the officers, directors,  shareholders or the individuals that signed the checks may be liable for certain debts of the restaurant after it closes (discussed below). Some of those debts may be “responsible person taxes” which are trust fund taxes such as sales tax or  FICA/FUTA taxes withheld from an employee's wages or the FICA/FUTA tax penalties. Sales tax and FICA/FUTA  taxes are not dischargeable in personal bankruptcy, so those debts should be paid prior to the restaurant closing or paid from the sale of furniture, fixtures and equipment, collection of accounts receivable or from the sale of the lease. Next, if a member of the LLC or a shareholder guaranteed a lease obligation, or guaranteed debts  to a supplier, they be personally liable ( discussed below). There are 2 types of lease guaranties, good guy guaranties and lease guarantees and the type of guaranty can affect the amount owed by the restaurant owner. If a supplier to the restaurant is not paid, the restaurant is generally liable, however in certain instances, the supplier will look for a “deeper pocket” and sue the individual arguing “alter ego” or “piercing the corporate veil” and attempt to sue not only the restaurant but the owner of the restaurant as well.The owner of the restaurant, may also be liable personally for wages not paid to the restaurant staff under the New York State Business Corporation law.A restaurant owner with significant business debts may need to file a Chapter 7 bankruptcy or attempt an out-of-court workout with respect to the monies that it  owes. To determine whether a restaurant owner should file bankruptcy or attempt to do an out-of-court workout with its creditors, we need to see a list of assets or property that the restaurant owner owns, a list of  liabilities or money or property owed to third parties and an after-tax monthly budget, showing what the restaurant owner earns what it pays in personal and business expenses.Unfortunately, in many instances after the restaurant is closed, the restaurant owner needs to file a Chapter 7 or Chapter 13 personal bankruptcy and James Shenwick is available  to help address these issues. Jim Shenwick 212 541 6224, [email protected]