Please read the attached (Discussion 1(1).docx) Wall Street Journal Article and answer questions 1-4.

APPLICATION: The article talks about the different forms of businesses. It can also be used to compare how the impact of a firm's bankruptcy on its owners depends on the organizational form of the business.

SUMMARY: Bankruptcy is an ordeal for executives at any business. But for entrepreneurs, it's often a double whammy: Their personal possessions are in jeopardy along with the business assets.

The following four questions are based on Wall Street Journal Article:

1. What is your main take-away from this article? What did you learn the most?

2. How does a firm's bankruptcy affect the owner of a sole proprietorship?

3. What is an LLC? How does an LLC or corporation differ from a sole proprietorship or partnership if the firm goes bankrupt?

4. How does a personal loan guarantee impact an owner if the firm is set up as a sole proprietorship, a partnership, a limited partnership, an LLC, or a corporation?

The Double Whammy of Bankruptcies Entrepreneurs often don't realize that their personal assets are at risk. Until it's too late.

By

Simona Covel

Updated Sept. 28, 2009 12:01 a.m. ET

Bankruptcy is an ordeal for executives at any business. But for entrepreneurs, its often a double whammy: Their personal possessions are in jeopardy along with the business assets.

As thousands of business owners are discovering during this downturn, sole proprietors are nearly always forced to file for personal bankruptcy if business debts overwhelm them. As far as a court is concerned, the person and the business are one and the same. Even owners of limited-liability corporations or corporate partnerships are often held hostage by loan agreements that use their personal assets as guarantees.

Their experiences hold a hard lesson for entrepreneurs trying to protect themselves during tough economic times: Before you start a business, understand exactly what risks you face if you run into trouble. Many small-business owners in bankruptcy simply didn't realize that creditors could take their possessions if the business failed.

On the Hook

In a sole proprietorship, "you can't say, 'I'm just filing [bankruptcy] for the business,' " says Lesley Hoenig, an attorney in Mount Pleasant, Mich. "There's no business to file, because it's not incorporated."

Consider Susan Hartzler, who started a public-relations firm, Alpha Dog PR, in 2006. She'd had trouble with business partners in the past, so she decided to operate as a sole proprietorship with some part-time help. The expense of forming a corporationsuch as accountants and lawyersseemed unnecessary, since she planned to keep the company small.

In its first year, Alpha Dog PR collected about $30,000 per month. But as the recession's grip tightened, business began to slip. Some customers stopped paying. Others disappeared altogether. Today, the Los Angeles-based business brings in about $4,000 per month, and Ms. Hartzler can no longer hold off creditors. She's beginning a personal-bankruptcy filing, even as she scrambles to drum up new products to revive her business.

She had no idea she'd have to go that route. "I didn't know that personal assets would be on the hook," Ms. Hartzler says. When she talked to advisers about setting up a company, "I didn't know to ask," she says.

In recent months, tens of thousands of business owners like Ms. Hartzler have struggled to hold on to homes and cars as their businesses crumbled. Total U.S. bankruptcy filings rose 36% to 711,550 during the first half of this year, compared with 522,205 cases filed over the same period in 2008, according to the American Bankruptcy Institute in Alexandria Va. Business filings jumped 64%, while personal filingswhich would include many sole proprietors who file as individualsrose 35%.

The rise in bankruptcies comes on the heels of several years of expansion in sole proprietorships, as a booming economy convinced people the time was right to strike out on their own. According to data from the U.S. Census Bureau, the number of companies without employees grew to nearly 22 million in 2007, a steady climb from fewer than 18 million in 2002.

Not Enough Cover

Sole proprietorships are particularly risky, but even LLC or corporate structures aren't always as safe as many entrepreneurs assume. True, these arrangements can protect one partner in a business from another's liabilities in the case of a bankruptcy. And both structures can protect a business owner from some claimants who could go after a sole proprietor.

But the structures do little good when an owner has signed a personal guarantee for a loan. And these days, banks are forcing many business owners to provide those guaranteesoften in the form of their homes, cars or other personal assetsin order to secure debt financing.

"That's the rub," says Jeff Kucera, a partner at law firm K&L Gates LLP in Miami. When small businesses seek debt financing, "they largely have to sign a personal guarantee.Most guarantees are very, very broad and seek as much relief as possible."

Joseph Tardiff and his wife, Amber Watson-Tardiff, worked with an attorney in 2004 to form a limited-liability corporation for Perfect Works LLC, the Moorestown, N.J., tree-removal and landscaping company they started with a partner. They knew an LLC could protect their personal assets if a customer sued in the case of an accident. And they were told by their attorney that the LLC structure was a general form of protection for their personal assets.

In 2007, a devastating car accident left their business partner paralyzed. Soon after, new-housing construction came to a near-halt, and homeowners stopped landscaping as the recession worsened. Saddled with debt, the couple went to their attorney to look into options for the struggling company. The attorney explained that Mr. Tardiff had signed a personal guarantee for their bank financingrendering him personally responsible for $75,000 in business loans. Because the loan was taken out under the business name, Mr. Tardiff simply hadn't understood that his personal assets could be involved.

"Creditors came after us," says Ms. Watson-Tardiff, who handled the company's books. "The lawyer said, 'You're completely on the hook.' "

The couple shuttered the business early this year, selling equipment at a fraction of its cost because of a flooded marketplace. That money, $30,000, went toward outstanding bank loans but wasn't nearly enough to pay them off.

Stymied by those personal guarantees, Mr. Tardiff and Ms. Watson-Tardiff filed for personal bankruptcy and are hoping to save their home through the bankruptcy proceeding.

"There's a false sense of security that comes with an LLC," Ms. Watson-Tardiff says. "It's not as clear-cut as you think it is."

Staying Safe

One reason small-business owners are sometimes blindsided by the consequences of the loan documents they signed, Mr. Kucera adds, is a natural tendency toward optimism.

Entrepreneurs "usually have a great faith in what they're doing. Planning for bankruptcy isn't something that comes naturally to them," he says.

Nevertheless, there are some general guidelines to keep in mind. Sole proprietors should understand that their personal and business assets are considered the same. If debts overwhelm the business, the only way out is probably a personal-bankruptcy filing.

Business owners who operate an LLC or a corporation should understand exactly what assets they're pledging as collateral. And don't try to get out of personal guarantees by transferring homes or other assets to family members after the paperwork is signed; that may be considered fraud.

Owners should also be careful to keep personal and business expenses separate. If a shareholder in a corporation has tapped business accounts for personal use or takes money out of the business, he or she can be asked to pay that back in the case of a business bankruptcy.

"There's a fine line between people who want to maximize the tax benefits [of operating a business] and these issues that pop up after a business becomes insolvent," Mr. Kucera notes.

--Ms. Covel is a writer in Chicago. She can be reached at reports@wsj.com.