When a company you have invested in files for bankruptcy, a lot of frightening changes can happen suddenly, leaving you wondering about the future of your investments. One problem shareholders frequently experience is when shares they hold in a company are liquidated, or cashed in. While this may sound ominous, it is possible that you can still receive payment on your investment.
Liquidation of assets, including stocks, happens when a company files for Chapter 7 Bankruptcy. In Chapter 11 Bankruptcy, shares may continue to be traded as the company attempts to get back on its feet, but in Chapter 7 the company dissolves completely. During this time, all assets are liquidated or sold so that the company can pay back any debt it owes to creditors and investors. Stock shares are cashed in for their dollar value and then used to pay back creditors. The stock shares themselves become worthless and cannot be sold by shareholders. The liquidation process can take a year or more, during which time shares can still be bought and sold at a very reduced value.
When stock shares and other assets are liquidated, bankruptcy laws require the company to first pay off those investors who took the least risk. Secured creditors, such as banks who have backed up their credit with collateral, are paid first. Unsecured creditors, including banks who have not put up collateral, suppliers or bondholders are paid next. Shareholders have taken the greatest risk and are considered part-owners of the company; thus they are paid last. Those who hold bonds are more likely to recover their investments than those with stocks because the company has a written agreement to return interest and principal to bondholders.
Shareholder Payment Amounts
What shareholders are paid once assets have been distributed to other parties is determined by how much money the company has left and what percentage of the company the shareholder owns based on his investment. If the company cannot pay back its creditors, stockholders may receive nothing for the shares they own.
If a company you hold stock in files for Chapter 7 bankruptcy and you receive little or no payment, you can report this amount as a loss on the current year's taxes. You can speak with your broker or with the IRS about how to do this.
If a company you have invested in files for Chapter 11 bankruptcy rather than Chapter 7, shares may still be bought and sold on the stock market and will not be liquidated. Instead, shareholders' shares may be cashed in and exchanged for new stock that is worth less. Discuss with your broker what you should do with your shares in the case of Chapter 11.
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