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Consumer Sourcebook

Preface | User's Guide | Table of Contents | Print Sourcebook Adobe Acrobat Reader Symbol

Failed Businesses

One of the most difficult and frustrating situations for consumers happens when a business closes its doors while owing goods, services, refunds or other amounts of money to consumers. A consumer may have a legal right to reimbursement, goods or the performance of services, but practically speaking, enforcing payment or performance from a defunct business may be difficult. Although a consumer may simply want to be reimbursed, all too often no entirely satisfactory remedy can be found. This section explores the mechanics of this situation as well as the benefits and drawbacks of four remedies: private lawsuit, filing a proof of claim in bankruptcy, private settlement, and walking away.

Private Lawsuit

Usually when a business defaults on its obligation to a consumer, the consumer has the right to sue the business for a full or partial refund, and sometimes for other damages too. If the amount in dispute is more than $5000, the claim would be filed in Superior Court. If the amount is less than $5000, it may be filed in District Court as a "Small Claim." Often a business that has stopped operating will no longer defend itself against legal actions. When a business does not appear to defend itself, the consumer may ask the court to enter a "default judgment" against the business. A judgment is, in practical terms, an order by a court for one party to pay another party a sum of money. The order does not "enforce itself," therefore, judgments often require further legal proceedings to turn the right to payment into cash. Neither does a judgment create the money to pay it, which means that some judgments cannot be enforced against a failed business because the business has no money to pay it. Bringing a lawsuit in Superior Court (even one that ends in a default judgment) can cost a lot of money, and the cost may outweigh the benefit received from a favorable judgment. Moreover, the judgment against the failed business may not be enforceable if the business has no money or assets that can be turned into money.

An extremely frustrating problem occurs when a failed business is a corporation. Under New Hampshire laws, and those of most states, a corporation is a legal fiction: an entity separate and distinct from its owners (shareholders), officers, employees, and board of directors, as if it were a separate "person." In most instances the officers, employees, shareholders, and directors of a corporation are not liable for its debts. In many cases, therefore, the owners, directors, or shareholders of a failed corporation are legally free to either work for another business or start a new one. The new business usually does not have to fulfill the old business's obligations to consumers or other creditors. As a practical matter, however, they may not be able to get financing because of their connection to the failed business.

Some exceptions to this rule exist. A court may decide that the officers and directors of a corporation are to be held liable for the corporation's debts to consumers under a legal doctrine sometimes called "piercing the corporate veil." This doctrine allows a court to "look past" the usual protection of the corporation to the owners if the owners are simply using the corporation to fraudulently evade creditors.

A lawyer usually must help you decide whether there is a factual basis for seeking to hold corporate officials personally liable for corporate debts. Facts to look for include:

  • Was the business actually registered as a corporation, or was it simply a trade name (where personal liability is the general rule)?
  • Did just one or two people control the corporation? Or were corporate directors appointed? Were shareholders or directors meetings held? Were notes/minutes of directors meetings made?
  • Were separate corporate bank accounts kept from the accounts of the business's principals?

Example: Donna goes to Big's Furniture looking for a new sofa. Barry Big, the president of Biger, Inc., the corporate owner of Big's Furniture, personally takes a $500 deposit from Donna toward her new sofa. Barry Big signs a purchase order, a copy of which is given to Donna acknowledging the $500 deposit and promising "delivery within 5 days." Big's Furniture closes the next day. If a court finds that Barry Big violated the NH Consumer Protection Act, then Barry Big may be personally liable to Donna for the return of her $500.

It is worth noting that New Hampshire's Consumer Protection Act gives important protections in this area. Corporate officers and directors may be liable to you if they personally participated in or were aware of, and authorized, actions that violate the Consumer Protection Act.

Bringing a suit in Small Claims Court is relatively inexpensive and does not necessarily require that you be represented by a lawyer. However, the same problem exists in enforcing a judgment that exists in Superior Court: if the business does not have enough money to pay it, then you may never actually receive your money. For more information about the procedures for bringing a small claims action, refer to Remedies: Small Claims Court.

Bankruptcy

Often, businesses in financial difficulty will file for protection from creditors under the federal bankruptcy law in the US Bankruptcy Court. Bankruptcy offers businesses and their creditors an orderly process and a reasonably concrete set of rules to follow in deciding how much the various creditors of a failed business may receive from the business. The end result of a bankruptcy proceeding is either a "reorganization" of the business or the "liquidation" of the business. In a "reorganization," the business is allowed to continue to operate and attempts to create a payment plan which satisfies creditors. In a "liquidation," the assets of the business are sold off to satisfy creditors' claims to whatever extent possible and the business ceases to exist. In either case, many, but not necessarily all, of the business's debts are "discharged" or forgiven. Therefore, when a business files for bankruptcy, a consumer who is owed money or services by the business should check the company's filing to see if his or her deposit has been listed as a debt of the business. If not, the consumer should complete and file a "proof of claim," a document that notifies the business, its creditors, and the bankruptcy court of the consumer's claim.

While filing a "proof of claim" with the bankruptcy court does not guarantee you will be reimbursed, it is the only way you can hope to receive satisfaction from a bankrupt business. Consumers' claims for retained deposits of up to $2100 do get special priority – they get paid before some creditors – but they come after wage claims, tax claims, and claims by banks, equipment suppliers, and other "secured" creditors who have certain long standing and legally protected rights to payment from the business.

Private Settlement

Occasionally a business will have neither enough money to keep operating, nor enough money or the right incentives to file for bankruptcy. A business may, however, have some money available to provide some or all of the goods or services owed to its customers. In these cases, a business may be able to settle consumer claims informally. Settling a claim may allow a consumer and a business to avoid legal proceedings while giving the consumer some satisfaction. The private settlement approach is not without its drawbacks:

  • The business's financial position may be difficult to assess (thus making it hard to evaluate its settlement offers).
  • The person within the business with authority to make promises on behalf of the business may not be easy to identify.
  • Business people in financial difficulty can be evasive about when and how promises will be performed; informal settlement agreements are often broken because the business continues to disintegrate and/or the promises were unrealistic or made in less than complete good faith.
  • Finally, informal agreements are difficult to enforce in court when they are broken.

If you are able to negotiate an informal settlement with a failed or failing business, you should try to get the agreement in writing, with clear, realistic dates for the business to perform.

Walking Away

Walking away from a transaction with a failed, nonperforming business is never pleasant. Sometimes, however, this is the most reasonable thing a consumer can do when dealing with a failed business. This action may result in less stress than any of the remedies discussed above, especially if the sum of money or the value of the goods or services involved is small. None of the remedies described guarantees that the consumer will gain satisfaction. On the other hand, a consumer can rarely expect to obtain any satisfaction simply by walking away from a transaction with a failed business. Moreover, when the consumer does not attempt to collect, there is no way of knowing whether the business had any assets with which it could have fulfilled its obligations.

Where To Go If You Have A Problem

Contact the NH Consumer Protection and Antitrust Bureau:

NH Consumer Protection and Antitrust Bureau
33 Capitol Street
Concord, NH 03301-6397
603-271-3641

Contact the US Bankruptcy Court in Manchester:

US Bankruptcy Court
275 Chestnut Street, 4th Floor
Manchester, NH 03103
603-666-7532

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New Hampshire Department of Justice | 33 Capitol Street | Concord, NH | 03301
Telephone: 603-271-3658