Though it takes time, the bankruptcy process will resolve your debt crisis and help you start over financially.
History of Bankruptcy 101
Several early attempts at creating universal bankruptcy rules, beginning in 1800, were amended and eventually repealed. Finally, Congress passed the so-called "Nelson Act" in 1898. Creditors lobbied for the Nelson Act in order to have uniform, federal rules for bankruptcy. It largely set the stage for bankruptcy as we know it today.
The Code provides several legal ways to eliminate debts through bankruptcy. These different legal approaches are listed under the Code's chapters and are referred to by their chapter number (such as "Chapter 7 bankruptcy"). They can be complicated. Many people find a bankruptcy attorney useful to avoid mistakes, pick the right plan for their debt, and avoid trouble with the courts along the way.
The Code has been amended numerous times since being passed and governs all U.S. bankruptcy cases.
The Federal Rules of Bankruptcy Procedure (or simply "Bankruptcy Rules"), created by the U.S. Supreme Court, govern the processes of bankruptcy. Each bankruptcy court also has its own local rules.
The Six Forms of Bankruptcy
There are six different types of bankruptcy in the U.S. Each form is designed for a specific purpose and has its own positives and negatives.
- Chapter 7 allows you to discharge most of your debt after selling off ("liquidating") some of your property to repay creditors. Chapter 7 is also for businesses that need to close their doors because of financial challenges.
- Chapter 13 keeps your property and puts into place a repayment plan with more reasonable payments to allow you to pay off as much debt as you can within three to five years.
- Chapter 11 is for businesses that wish to shed debt and cut costs through business reorganization.
- Chapter 9 is for cities, counties, school districts, and municipalities in debt.
- Chapter 12 is for family farmers and fishing businesses facing debt.
- Chapter 15 is for foreign cases (such as a U.S. citizen with assets in various countries).
Most people will decide between Chapter 7 and Chapter 13 bankruptcy, while businesses will choose between Chapter 7 and Chapter 11.
The type of bankruptcy you can file will depend on your assets, earning capacity, total debt, and several other factors. The choice is not always up to you, but your attorney and bankruptcy trustee can advise you.
Common Concerns About Bankruptcy
While bankruptcy is an essential tool in resolving your debt problems, it can still concern filers. It is critical to know all the possible effects before you file:
- Bankruptcy can lower your credit score (but so can continued debt and late payments)
- The cost of filing is around $500
- Hiring a bankruptcy attorney can feel unaffordable for many people but often saves money in the long run
- Creditors can file disputes over the repayment of debts
- Money may be taken from your paycheck (called wage garnishment)
- Creditors may argue that a given debt should not be discharged (the final decision is up to the bankruptcy judge)
- Child support, alimony, and taxes may not be discharged
- Student loans are not dischargeable unless you prove paying them will cause "undue hardship" (which is very difficult to prove)
- Failing to list all your debts or assets can cause the court to deny your debt discharge. You could also face fraud charges.
A bankruptcy attorney will help you navigate any issues before they come up. They can stop debt lawsuits and harassment and save you money overall by making the process go smoothly. They can also ease your mind about the realities of the concerns listed above — and if they will affect your case.
Getting your debt dismissed and stopping creditors from calling or suing you is a massive benefit to bankruptcy. There are additional benefits that can happen instantly or over time:
- Chapter 7 bankruptcy has many bankruptcy exemptions that might allow you to keep your home, car, and other items.
- Chapter 13 helps you develop a repayment plan that ensures you exit bankruptcy within a few years.
- After the court approves your bankruptcy, it will shield you from lawsuits and other adverse legal problems while you work through the process.
- The court issues a protective order when you file for bankruptcy called an "automatic stay." This stops most creditors from contacting you about your debts or making any collection efforts.
- "Unsecured debt" from credit cards and medical bills is forgiven in many cases.
- You can still buy a house with a bankruptcy on your credit history.
- Credit scores can improve in one to two years after filing if you avoid new debt.
- Filing bankruptcy will appear on your background check but will not prevent you from getting a new job.
You can start to improve your financial situation once you decide to file the bankruptcy petition. Once approved, you get a court order to stop creditor calls and collection actions, and you can work towards a fresh start.
You should first consider if debt relief options can help you or if bankruptcy is your best option. You can have a free consultation with a bankruptcy attorney to help you decide.
The process will require paperwork, finding documents, meeting with your trustee, and various court appointments. It generally takes two to six months from the day you start the paperwork to your last court appointment.
The court issues a protective order when you file for bankruptcy called an "automatic stay." This stops most creditors from contacting you about your debts or making any collection efforts. Only the court has the authority to lift the automatic stay and allow creditors to seek repayment of debts.
Bankruptcy can help you get rid of some kinds of debt. Unsecured debt such as debt from credit cards and hospital bills may be eliminated in many cases. But you cannot discharge child support, alimony, and most taxes.
Student loans are not dischargeable unless you can prove that repayment would cause an undue hardship (which is very difficult to prove). Also, creditors may argue that a given debt should not be discharged, subject to the bankruptcy judge's approval.
Bankruptcy: Keeping Your Property
If you have a steady income that exceeds Chapter 7's limitations but face unmanageable debts, Chapter 13 may be the best (if not only) option.
One of the upsides of a Chapter 13 bankruptcy is that you often retain much of your property. Under Chapter 7, various property types may be subject to liquidation or sale to repay creditors. State laws differ on the types of property considered eligible (nonexempt) or ineligible (exempt) for sale in a Chapter 7 case.
If you meet the eligibility requirements for both Chapter 7 and Chapter 13 bankruptcy, you may choose which type to file. Otherwise, you may not have a choice.
Those with an income higher than the median income (for a similarly sized family) are not eligible for Chapter 7 if they could repay some unsecured debt within five years. To qualify for Chapter 13, you must not exceed a certain debt level (see Individual Debt Adjustment for current limits). If you don't meet these requirements, then Chapter 13 bankruptcy is not available to you.
Usually, those who have a choice in the matter go with Chapter 7 bankruptcy. This is ideal since they may have all of their debts discharged (besides the debt covered by the proceeds of liquidated property). Chapter 7 also can be a much faster process than Chapter 13. However, Chapter 13 may be the best option for those who have adequate income and substantial assets.
Significant differences can be found in Chapter 7 vs. Chapter 13 bankruptcy involving:
- Mortgages and car loans
- Debts tied to past crimes
- Debts owed for child support, alimony, or student loans
- Debts owed in a divorce, property settlement, or agreement (that are not alimony)
- Co-debtors on personal loans
- Nonexempt valuable property
- Secured property
- A prior bankruptcy
Depending on your priorities or unique situation, these areas may limit the type of bankruptcy you can file for. Consider if any of these apply to you, and talk to an attorney about your options.
While most court cases are heard in either civil or criminal court, bankruptcy has a dedicated system of courts throughout the country. Each judicial district in the U.S. has its own bankruptcy court, while each state has at least one district (90 districts total).
United States bankruptcy judges have the authority to make binding decisions in bankruptcy cases, such as eligibility issues or whether to grant a debt discharge. However, most aspects of the bankruptcy process are done outside of the court. For example, an appointed trustee carries out the administrative duties of Chapter 7, Chapter 13, and other types of bankruptcy cases.
You actually have very little interaction with the bankruptcy judge. Most Chapter 7 applicants don't even set foot in court and only see the judge if there are objections to the bankruptcy plan. Chapter 13 debtors typically appear in court just once, at the bankruptcy plan confirmation hearing. The informal meeting of the creditors (also called a "341 meeting," based on Section 341 of the Code) is typically held at the trustee's office.
Filing for Bankruptcy? Contact a Local Attorney
While the articles in this section provide additional detail about the basics of bankruptcy, it can be a wise decision to speak with a skilled bankruptcy attorney near you.
An attorney can help you determine which form of bankruptcy is the best choice to resolve your debt crisis and guide you through the process of filing for bankruptcy.