Bankruptcy can have far-reaching effects on those who decide to go through the process. Whether a business bankruptcy will affect your spouse’s credit will depend on several factors, in particular, where you live.
The following states are community property states: Alaska, Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. If you live in one of these states, any income or property that is earned or bought during the marriage is considered community property.
This also means that any debt that is incurred by one or both spouses during the marriage is also shared. If you have a business and are considering filing bankruptcy, it might make sense for both of you to file in order to wipe out the business debts and protect your community property and income.
All others are common law property states, and debts incurred by one spouse are generally the responsibility of that person only. However, there are caveats to common law property. Debts that may be jointly owned and are thus the responsibility of both spouses include:
- The names of both spouses appear on property titles or accounts;
- Both spouses guaranteed payments to loans or other debts;
- Both spouses entered their credit information for a loan; and/or
- Debts that benefited the marriage, such as child care and groceries.
A business debt is a little different. If it is in one spouse’s name, then it is considered that spouse’s debt. Creditors cannot take the other spouse’s separate money or property to repay those debts. If the couple has any type of joint account, creditors may take half the money or assets within those accounts.
However, if the business is jointly owned by both spouses, then those debts could be the responsibility of both spouses. In this case, a business bankruptcy could affect a spouse’s credit.
Your business debt may affect your spouse under the following circumstances:
- The Business is Not a Limited Liability Company: If you are operating as a sole proprietor or a general partner of a partnership, you are personally liable for your business’s obligations. The same can be said for your spouse, as he or she will be personally liable for the business’s debts in the same way you both are liable for personal debts. One way to avoid business debt liability is to form the business as a corporation or a limited liability company from the start.
- The Business Debt was Guaranteed or Consigned By You or Your Spouse: If either you or your spouse personally guaranteed a business loan, you are liable for paying it back. In common law or community property states, if only you personally guaranteed a business debt, it is possible that your spouse will also be held liable for the debt if both spouses own the business or are joint partners.
However, ultimately it will depend on the nature of the business, like how it is structured or how the debts/investments are laid out. It will also depend on whether the state you live in is considered a common law (or separate property) state or a community property state, as will be further explained below.
Most states are common law states, as they follow certain guidelines when it comes to debt and property division. Under common law, a spouse is not liable for a debt so long as he or she was not a guarantor or cosigner to the debt.
However, as mentioned previously, if the business is a sole proprietor and both spouses are joint partners, it is possible that the business’s debts will fall on the shoulders of both spouses. In any situation that involves creditors collecting on debts or bankruptcy, it is wise to seek the advice of a bankruptcy attorney.
In community property states, income and property that is acquired during the marriage is considered to be equally owned by both spouses. The same goes for debts that are incurred during the marriage. If a spouse personally guarantees a business loan, then the community property of both spouses could be used to satisfy the debt. In essence, if you live in a community property state, you could be held liable for your spouse’s debts.
If you are considering filing for business bankruptcy and are concerned that it may affect your spouse’s credit, you should contact a business attorney. The process of bankruptcy can be complex and an experienced lawyer can assist you throughout. Alternatively, if you have questions about types of business formation and what is most appropriate for your situation, a business attorney can provide guidance and help you set up your company in a manner that reflects the goals of your business.