Bankruptcy and Small Firms' Access to Credit

27 Pages Posted: 21 Jun 2002 Last revised: 27 Oct 2010

See all articles by Jeremy Berkowitz

Jeremy Berkowitz

University of Houston - Department of Finance

Michelle J. White

University of California, San Diego (UCSD) - Department of Economics; National Bureau of Economic Research (NBER)

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Date Written: June 2002

Abstract

In this paper, we investigate how personal bankruptcy law affects small firms' access to credit. When a firm is unincorporated, its debts are personal liabilities of the firm's owner, so that lending to the firm is legally equivalent to lending to its owner. If the firm fails, the owner has an incentive to file for personal bankruptcy, since the firm's debts will be discharged and the owner is only obliged to use assets above an exemption level to repay creditors. The higher the exemption level, the greater is the incentive to file for bankruptcy. We show that supply of credit falls and demand for credit rises when non-corporate firms are located in states with higher bankruptcy exemptions. We test the model and find that, if small firms are located in states with unlimited rather than low homestead exemptions, they are more likely to be denied credit, they receive smaller loans and interest rates are higher. Results for non-corporate versus corporate firms suggest that lenders often disregard small firms' organizational status in making loan decisions.

Suggested Citation

Berkowitz, Jeremy and White, Michelle J., Bankruptcy and Small Firms' Access to Credit (June 2002). NBER Working Paper No. w9010. Available at SSRN: https://ssrn.com/abstract=316789

Jeremy Berkowitz

University of Houston - Department of Finance ( email )

Houston, TX 77204
United States

Michelle J. White (Contact Author)

University of California, San Diego (UCSD) - Department of Economics ( email )

9500 Gilman Drive
La Jolla, CA 92093-0508
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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