– Chapter 7 Bankruptcy
– How Chapter 7 Applies to Individual Filers
– How Chapter 7 Applies to Business Filers
– How to File for Chapter 7 Bankruptcy
– How New Bankruptcy Laws Affect Filing for Chapter 7 Bankruptcy
– Chapter 13 Bankruptcy
– How to Choose Between Filing for Chapter 7 and Chapter 13 Bankruptcy
– Advantages of Chapter 13 Bankruptcy
– Disadvantages of Chapter 13 Bankruptcy
– How to File for Chapter 13 Bankruptcy
– Things to Know Before Filing for Chapter 13
– Closing Thoughts
Bankruptcy, also sometimes referred to as financial insolvency, is a legal procedure that a person or business can take when they can no longer repay creditors for the amount of debt that is owed.
While most cases of bankruptcy are considered to be voluntary and are initiated by the person or entity holding the debt, there are times when creditors may file an “Involuntary Bankruptcy Petition” against a business or corporation. This is done in an effort to force a restructuring of the company or to initiate repayment. Involuntary bankruptcy petitions cannot be filed against individual debtors who are not classified as any type of business.
In the United States, bankruptcy is categorized under the Bankruptcy Code, or Title 11 of the United States Code. Two of the most commonly filed forms of bankruptcy are referred to as Chapter 7 Bankruptcy and Chapter 13 Bankruptcy. In order to help you better understand the differences between each, as well as their distinct advantages and disadvantages, both are described in more detail below.
Chapter 7 Bankruptcy
Chapter 7 of the bankruptcy code, also known as Chapter 7 bankruptcy, is sometimes referred to as “straight bankruptcy,” and is essentially simply the process of liquidating one’s assets under the laws of the United States that govern bankruptcy. This Chapter varies a bit from other Chapters in the code (such as Chapter 13) because it does not include reorganization. Chapter 7 is the most commonly filed form of bankruptcy for debtors in the United States. Chapter 7 can filed for individuals and businesses alike.
How Chapter 7 Applies to Individual Filers
Any individual who owns property, has a business, or lives in the United States is eligible to file for liquidation, or Chapter 7 bankruptcy, within the federal court system. That being said, as is the case with the other chapters of bankruptcy, individuals who have had another bankruptcy claim dismissed within the last 180 days may not file for Chapter 7.
While Chapter 7 bankruptcy is a form of liquidation, individuals are allowed to keep certain types of property which are considered “exempt” under the law. Each state has its own rules that apply to the value of property that is exempt; however, most forms of liens such as those that apply to mortgages on real estate and interest on car loans are left intact. Other types of assets must be sold in an effort to repay creditors. While several types of debt that are considered to be unsecured can be legally discharged under Chapter 7, it is important to note that not all types of debt fall into this category and not all debt will be discharged.
Some of the most common exceptions to the discharge rule include student loans, property taxes, child support, fines or other types of restitution that is to be paid as ruled by a court for any crimes that have been committed, and income taxes that are less than three years old. Divorce settlements and spousal support are also not protected under bankruptcy filings, and all forms of debt must be clearly listed on all bankruptcy filings.
Once an individual files for Chapter 7 bankruptcy, the claim will remain on the individual’s credit report for a period of ten years. This is slightly longer than Chapter 13 bankruptcy, which remains on a credit report for a period of seven years. While the claim is present on the credit report, the individual may find that they are offered credit terms that are less favorable, and may have a harder time obtaining credit. This, however, is also the case when an individual has high amounts of debt that cannot adequately be repaid. The filing of bankruptcy can often improve the creditworthiness of the individual, thus making it a delicate issue that should be carefully weighed.
Another issue that needs to be carefully considered is whether or not the United States Trustee to the Chapter 7 filing can challenge the claim. If it is determined that the debtor can, by means of income classified as disposable, afford to pay some or a portion of the debt that is outstanding within a five year time period outlined in Chapter 13, the challenge may be won. In this case, the individual filing may not be entitled to a discharge of debt, and will be forced to file for reorganization under Chapter 13.
Since bankruptcy laws have become more stringent, and more and more people have turned to Chapter 7 as a means of eliminating debt that they have accrued, U.S. Trustees have become much more aggressive with filings. Because of the abuse of this form of bankruptcy, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 was imposed, which made changes to the actual U.S. Bankruptcy Code, including the enforcement of a means test for anyone filing for Chapter 7.
How Chapter 7 Applies to Business Filers
When a business begins to fail and starts accruing debt, they may find it difficult to repay creditors. When this happens, the business may choose to file, or may be forced by creditors to file, Chapter 7 bankruptcy in the federal court system. Filing for Chapter 7 for a business means that all operations must be ssuspended, unless the Chapter 7 Trustee continues to operate the business. Every case is appointed a Chapter 7 Trustee, and this person is given the right to inspect the financial dealings of the business. The Trustee also has the right to sell assets and distribute the funds to outstanding creditors. This may mean that the business will have to be dissolved entirely. If the business is large, with different divisions in place, the Trustee may opt to sell only certain divisions during the liquidation process.
Creditors that hold secured debt, such as loans that have collateral attached, are given the legal right to keep the collateral that secures the loan, regardless of the liquidation process. This makes the creditor fully protected as long as the value of the collateral is equal to or exceeds the value of the loan. This also means that once the collateral is kept, secured creditors can no longer take part in any distribution of assets that have been or may be liquidated by the Trustee.
Unlike individual cases, businesses, partnerships, or corporations that file Chapter 7 cannot have their debt discharged; instead, the entity that files is simply dissolved. When all the assets of a business have been assigned a Trustee, the claim is essentially closed. That being said, the debts may still persist until the relevant statues of limitations run out.
How to File for Chapter 7 Bankruptcy
Today, there are several different ways that both individuals and businesses can file for Chapter 7 Bankruptcy. Below are the most commonly used methods.
Bankruptcy Software: This type of software allows the person or entity wishing to file for Chapter 7 to interact directly with a web page to access the forms needed, without needing to have in-depth knowledge of bankruptcy law. The person filing simply answers a series of questions that are asked in the form of an interview, similar to many of the tax programs now available. Information that is to be entered includes name, addresses, a list of creditors, a list of assets, and other pertinent financial information. The software then generates the forms in a court-ready format, and sends them via email or link to the filer. This process is a bit lacking, however, because there is no way for the software to ensure that the filer completely understands what information needs to be provided, the laws in his or her state, if certain exemptions can be claimed, and if the expenses listed on the means test are valid.
Federal Bankruptcy Forms: These forms are another do-it-yourself method. Essentially, these forms are templates similar to the above mentioned software, but in paper form. These forms are the actual forms required by the Federal Bankruptcy Code, and are available in both Adobe Acrobat and Microsoft Word format. They do not come with an interview as the software does, and there are no explanations provided for the filer. The filer must complete each form individually, and print them for submission.
Non Attorney Preparer: If the filer does not want to take a chance on preparing the documents him or herself, one alternative is to use a non-attorney preparer. This is a great middle of the road option for those who do not want to go it alone, but also cannot afford to hire a bankruptcy attorney. These professionals prepare the forms for the filer, but they do not provide legal advice or verify any information. As is the case with the bankruptcy software, filers are asked a series of questions and the forms are completed on their behalf. The forms are then provided to the filer. Certain guidelines must be followed by the preparer so that the filer is protected, and a bankruptcy trustee will verify the information to make sure that it was prepared in the correct manner.
Bankruptcy Attorney: Bankruptcy attorneys should be thought of as full service providers, as they can advise filers on the best time to submit paperwork, whether or not they qualify to file for Chapter 7, other potential options that may be better for the filer, verify that all requirements have been met so the filing will move along properly, and what assets will be protected from the filing. Since the new laws were put into place in 2005, filing for Chapter 7 bankruptcy has become much more complicated. These attorneys are experts in this field, and will walk filers through every step of the process.
How New Bankruptcy Laws Affect Filing for Chapter 7 Bankruptcy
The Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) was placed into law on October 17, 2005. This change was the largest made to the laws governing bankruptcy since 1978, and was done after banks and other lenders lobbied for years to stop the injustices of the then existent bankruptcy laws. The changes put into effect were not subtle. Below are explanations of each of the major changes.
The Means Test: Perhaps the most noticeable change enacted by the BAPCPA is the means test. This test requires debtors that have an income, as calculated by the bankruptcy code, which is above the median income for the debtor’s state to be subjected to a sixty month disposable income test. The means test helps to determine if abuse is taking place in cases that the debtor’s disposable income per month is greater than a specific amount of their outstanding debt. If it is determined that abuse is taking place, only in case of “special circumstances” can the ruling be contested. Essentially, anyone with a monthly disposable income of more than $182.50 may face allegations of abuse. Debtors that do not have an income above the median income level are not subject to the means test.
Special circumstances is considered to be an opportunity for debtors to adjust their income by documenting any additional losses of expenses for specific reasons, such as being called to active military duty or having a medical condition. That being said, the allegation of abuse can only be overturned if the adjustments are significant enough that the outcome of the means test will be altered. If the adjustments do not create a major change, abuse will still be determined.
Also of note, the calculated income amount is determined by using the past six months and could be higher or lower than the current amount of income of the debtor at the time bankruptcy is filed. Furthermore, if the debt accrued by the debtor is not largely consumer debt, the means test does not apply. Having large non-consumer debt has allowed businesses to get away with abusing different forms of credit, without having to face legal repercussions.
Credit Counseling: The next of the major changes implemented by the BAPCPA has to do with debtor eligibility. Statute 109 asserts that debtors will not be eligible to file for chapter 7 or chapter 13 bankruptcy without first receiving an “individual or group briefing” from a nonprofit credit counseling agency that has been approved by the United States Trustee, within 180 days of filing.
The new laws also mandate that individual debtors must also complete a course in personal financial management. If this course is not completed, their filing may be denied. This course requirement is still in the experimental phase, and if it does not prove effective, it may be discontinued.
Applicability of Exemptions: The BAPCPA felt it was necessary to rid the bankruptcy laws of the professed forum shopping. This was done by modifying the rules that are associated with being able to claim exemptions. Under the new laws, a debtor who has moved from one state to another state within approximately 730 days is subject to the laws governing exemptions from the state that the debtor lived in for the majority of the 180 day period preceding the last 730 days. In the event that the laws used cause the debtor to become ineligible for a particular exemption, the debtor will then have the option to select federal exemptions.
The BAPCPA also placed caps on the amount of homestead exemptions that can be claimed by a debtor, regardless of state laws. There is a further cap placed on this exemption when the debtor added value to a homestead within 1,215 days before filing for bankruptcy. This new guideline asserts that any value that is in excess of $125,000 that is added to a homestead cannot be considered an exemption. The only exceptions to this rule would be if the homestead is the main residence of a family farmer, or if the value was reassigned from another homestead located in the same state. The cap does apply when a debtor buys a new homestead in another state, or if the debtor increases the value of their current homestead by putting on an addition or remodeling.
Lien Avoidance: Chapter 7 bankruptcy allows for some types of liens to be avoided. That being said, the BAPCPA places limits on a debtor’s ability to avoid liens when filing bankruptcy. For example, the definition of household goods for the bankruptcy proceedings was changed to limit electronic equipment to one television, one personal computer and related items, one VCR, and one radio. Jewelry valued at more than $500, with the exception of wedding rings, works of art created by the debtor or a family member, and motor vehicles, are excluded from the new definition. The old definition of household goods was much more extensive and included a number of additional items.
Miscellaneous Changes: In addition to the above mentioned changes, the BAPCPA also implemented a number of other changes that affect filing for Chapter 7. One such change is that the number and type of debts that are eligible for discharge has been decreased, especially on debts that have been accrued from the purchase of luxury goods. Also, student loans cannot be discharged unless “undue hardship” can be proven. Furthermore, the amount of time during which a debtor can have more than one discharge was changed from six years to eight years.
Another change made was the duration of the automatic stay, especially for debtors who have filed again within a year of a previous bankruptcy, has been limited. This can, however, be extended if the court decides to do so.
The BAPCPA also limited how the automatic stay can be applied related to the eviction process. If prior to the bankruptcy petition being filed, the landlord has acquired a judgment of possession, the debtor places rent monies into an escrow account that is held by the bankruptcy court. The stay can only be removed if the landlord does not receive payment in full from the debtor within thirty days. The automatic stay does not apply if the eviction has been filed because of illegal use of controlled substances at the location of the rental, or if it relates to endangerment.
Finally, the BAPCPA placed a provision in effect that provides protection for creditors from any monetary penalties that may be incurred because of a violation of the automatic stay, should the debtor not provide adequate notice. This notice requirement states that the debtor must supply the creditor with a notice of the bankruptcy, in writing, to an address on record with the court, or to an address provided in at least two previous communications from the creditor to the debtor within ninety days of the bankruptcy claim being filed.
Chapter 13 Bankruptcy
Chapter 13 of the United States Bankruptcy Code, also known as Chapter 13 bankruptcy, gives individuals an opportunity to reorganize financially while being overseen by the federal bankruptcy court system. The main purpose of Chapter 13 is to allow debtors who receive an income to rehabilitate their ways by completing a plan that has been approved by the court. This differs from Chapter 7, which provides immediate and total removal of many different types of debts. Chapter 13 is to be thought of as more of a type of debt consolidation program.
How to Choose Between Filing for Chapter 7 and Chapter 13 Bankruptcy
Any person who is in severe debt has the option of filing for either Chapter 7 bankruptcy, which is essentially liquidation, or Chapter 13 bankruptcy, which is essentially reorganization.
The exact type of relief that is needed from the debt, as well as the financial status of the debtor, has a great deal to with choosing which chapter to file under. In some situations, there is no way for the debtor to file under Chapter 13 because they do not have the amount of disposable income that is needed to fund a reorganization plan. What’s more, section 109e of the United States Bankruptcy Code places limits on debt for individual eligibility for filing Chapter 13. These limits are less than $360,475 for unsecured debt, and less than $1,081,400 for secured debt.
Chapter 13 bankruptcy requires the debtor to develop a plan to repay creditors over the course of a three to five year time frame. The plan must be put in writing, and all details of associated transactions, along with their expected durations, must be included, as well as the establishment of guidelines that state repayment conditions must start within thirty to forty five days after filing. Creditors cannot try to collect on their debts during this time, unless it is done through the bankruptcy court. For the most part, debtors get to keep their property, and creditors end up settling for less than they are currently owed.
Advantages of Chapter 13 Bankruptcy
The advantages of Chapter 13 bankruptcy, as opposed to Chapter 7, are that debtors gain the ability to prevent creditors from filing collection notices against co-debtors that are not filing for bankruptcy; to place a value on collateral; to stop a foreclosure, although it could be only temporary until the time the bankruptcy is completed; to divide the interest of creditors on certain property for which too much interest is being charged, is over secured, or both; and to obtain a discharge of certain types of debt that are not able to be discharged under other chapters of the bankruptcy code.
Disadvantages of Chapter 13 Bankruptcy
The main disadvantage of filing for any type of bankruptcy is that it can remain on an individual’s credit report for as many as ten years. While a Chapter 13 case is pending, the debtor cannot obtain any type of credit without it first being approved by the court. Furthermore, many creditors do not wish to take the risk of supplying individuals who have filed for bankruptcy with credit. You will only qualify for bad credit personal loans and it will be difficult to borrow a significant amount of money.
How to File for Chapter 13 Bankruptcy
As is the case with Chapter 7 bankruptcy, there are a couple of different ways to file for Chapter 13. It can be done independently by acquiring the applicable forms, or through a bankruptcy attorney. Since hiring an attorney can cost thousands of dollars, the most popular method for filing is to do it independently.
The first step in the process is to file the petition with the bankruptcy court in the state in which the debtor resides. In addition to the petition, a schedule of assets and liabilities must be filed, along with a list of current income and expenses, leases that are still in place, and executor contracts. All assets that are considered to be exempt from bankruptcy must also be filed. This can all be done by completing the forms that can be found at any office supply store. Forms are not available at the court, and any issues that are unclear should be verified by an attorney prior to filing.
The next step when filing for Chapter 13 is to pay for all necessary fees. There is a court filing fee that can vary but typically costs a couple of hundred dollars, as well as some various administrative fees. When all the paperwork has been filed and the fees have been paid, the petition is marked as “stayed.” Once this status is achieved, creditors cannot file lawsuits against the debtor, send collection agents to collect payments, or garnish wages. From here, a plan of repayment needs to be filed, within fifteen days of filing the petition.
After all of the paperwork has been filed, a meeting of creditors will need to take place within twenty to fifty days. Debtors must attend this meeting, as it will provide creditors with the chance to verify information regarding their status, and to ask any necessary questions.
There will also be a confirmation hearing held in bankruptcy court. It is at this time that a bankruptcy judge will decide if the debtor’s plan to repay the debts outstanding is reasonable, and if it complies with all bankruptcy code rules. Creditors can attend this hearing and are allowed to object if they will receive lower payments than they would if Chapter 7 was filed, or if the debtor does not put forth all of the disposable income available for all three to five years of the plan.
Finally, the debtor starts to make payments within thirty days of the plan being filed. This is done through an attorney, and must be done even if the court has not officially approved the proposed plan. In the event that the plan is not approved, it can be further modified or converted to another type of bankruptcy, such as Chapter 7.
Things to Know Before Filing for Chapter 13
The new laws put in place by the passage of BAPCPA actually work to push debtors toward filing for Chapter 13, rather than other options such as Chapter 7. While the changes to Chapter 13 were not as drastic as those imposed on Chapter 7, there are several things that all filers should know before petitioning the court.
The first major change is that all filers must meet with an accredited credit counseling agency to complete a credit counseling briefing before completing a petition. This has been put into place in order to present debtors with all of their options before they make the final decision to file for bankruptcy.
The second major change is that all filers must complete a debtor education program known as a financial management course. This is done as a means to assist debtors to develop the skills needed to better manage their finances so that once their bankruptcy discharges, they can maintain a healthy financial status.
No matter which type of bankruptcy is being considered, it is important to fully explore all of the possible options, and understand all of the rules and implications associated with each. Bankruptcy can be a true saving grace for individuals who are in severe financial distress; however, it is not something that is meant to reward poor choices or that should be entered into lightly.