Overview

Filing for bankruptcy is a major financial decision. If you are in a dire financial situation, it can be your savior. However, it’s important to note that not all debts can be wiped away by bankruptcy. If you decide to file, the effects of bankruptcy can be long-lasting. If you are pondering filing for bankruptcy, educate yourself first with our guide below.


Bankruptcy Definition

Bankruptcy is a process where a consumer or a business entity states they cannot pay back their debts and obligations. With bankruptcy, you can get a clean slate and the fresh start you need. The judge and your court-appointed trustee will evaluate your assets and liabilities to see if you are truly unable to repay them with your current financial resources.


The Types of Bankruptcy

There are many forms of bankruptcy available to consumers and business entities for a variety of reasons. If you are a consumer, the most common types of bankruptcy you may hear about include Chapter 7 and Chapter 13. The other chapters of bankruptcy are for businesses and corporations.

Chapter 7 Bankruptcy

Under Chapter 7 bankruptcy, debts such as credit cards, past-due bills, and personal loans are completely forgiven. Once the debts have been forgiven,The differences of chapter 7 and chapter 13 bankruptcy your court will appoint a trustee who will oversee your personal case and will sell certain assets. Once the assets are sold, the funds are then distributed to your creditors and lenders in order of priority.

There are certain exemptions on what a trustee can sell. For instance, your home, clothing, and other private possessions are exempt from bankruptcy. A benefit of Chapter 7 bankruptcy is that your bank must stop the foreclosure process immediately.

It’s important to know that certain debts cannot be removed in Chapter 7. These debts include any federal student loans, past-due child support, income tax, and alimony.

Chapter 13 Bankruptcy

Chapter 13 bankruptcy doesn’t wipe out all your debts but simply helps to organize them. Thirty percent of all consumer-based bankruptcies are in the form of Chapter 13. Essentially, a court-appointed trustee will collect payments from you for a 36-60-month period to repay creditors you owe.

It will involve you repaying some debt in exchange for having the debts removed from your credit report. You will not be required to sell any personal property in Chapter 13. The bank or lender must also stop the foreclosure process, as well once you file for Chapter 13.

Chapter 13 is ideal for those who have a high income and do not want to sell their property. There are limitations on the level of debt that qualifies you for Chapter 13, so speak to a bankruptcy attorney in your state first.


The Big Why

After reading about the 2 types of consumer bankruptcy available, you might be thinking who would file for Chapter 13 when Chapter 7 offers so many more benefits? This is simply because many consumers in debt will not qualify for a Chapter 7 bankruptcy. To be granted a Chapter 7 bankruptcy, you must first pass a “Means Test”.

A Means Test is a way for the court to see if you can actually repay your debts or not. To qualify for Chapter 7 from a Means Test, you must prove that you have little to no disposable income available. In a Means Test, the court will take the average income you received in the last 6 months and compare it to the averages in your state. The income calculation will include interest and dividends, wages, tips, property income, child support, and workers compensation. If your income is below the average, you should be able to qualify for Chapter 7.

If you have brought on a cosigner to any loan or form of credit, Chapter 13 allows the cosigner to be relieved from their obligation. Chapter 13 can also offer you more protection over your assets that Chapter 7 liquidates.


The Chapter 7 Process

To finalize your Chapter 7 filing, you must have a counseling session with a credit counselor. This counseling should be completed within 180 days of completing the Means Test. The counseling session can happen online or over the phone. The goal of this session is to help you explore other options available besides bankruptcy.

With the amount of paperwork required for Chapter 7, it is advised that you speak to a local bankruptcy attorney. Although it can be a large expense upfront, you could be saving yourself major headaches if you misfile or have an error in your filing.

Either you or your attorney will file the paperwork and your petition to file for bankruptcy. You must collaborate with your attorney in order to provide them with your total assets, debts, and income. After you file, all creditors and lenders must legally stop all collection attempts. You will see a massive drop in your credit score days after filing. A Chapter 7 filing will stay on your credit report for 10 years and Chapter 13 lasts for up to 7 years.

Once you or your attorney file the correct paperwork, the court will then appoint a trustee to guide and oversee your bankruptcy. The trustee is also responsible for scheduling a meeting between you, your attorney, and all your creditors or lenders. This meeting is usually referred to as “The Meeting of Creditors”. This meeting will require you to answer certain financial questions. Often, the IRS or your auto loan provider may also join the meeting to ask about your taxes and how you will pay off your car loan if needed.

After the “Meeting of Creditors”, the trustee will review all your paperwork and financials to determine your eligibility. If the trustee decides that you are eligible, they will create a list of assets you must sell repay your creditors. Typically, Chapter 7 cases are considered as “no asset” cases which means that there are no “worthwhile” non-exempt assets worth selling anyway.

If you have any forms of secured debt, such as a car loan, the collateral may be turned over to the creditor. After all this is said and done, the court will require you to take a financial course aimed at helping you from falling into bankruptcy again. After this course is completed, your bankruptcy case is over and you can begin to rebuild your finances.

Before we dive into Chapter 13 bankruptcy, here are some pros and cons to think about Chapter 7:

Pros:

  • Filing for Chapter 7 bankruptcy is the only way to get a completely clean slate. There is not a single more powerful bankruptcy motion for a consumer to carry than Chapter 7.
  • After you file Chapter 7, you get to keep your house and stop worrying about foreclosure.
  • There isn’t a “maximum allowed” debt with Chapter 7.

Cons:

  • Debts like income tax, alimony, student loans, and child support cannot be erased.
  • Although Chapter 7 halts the foreclosure process, it doesn’t stop it forever, If you can’t come up with the funds to pay your missed mortgage payments, the bank will almost certainly take your house.
  • Chapter 7 bankruptcy will remain on your credit report for 10 years. So expect to pay much higher interest rates when you borrow money.
  • You can only file for Chapter 7 every six years

The Chapter 13 Process

Although Chapter 13 may not be ideal for must consumers, it can still help. To be able to qualify, you must have a regular source of income. The law states that your secured debts cannot be over $1,184,200 and that your unsecured debt may not exceed $394,725. The difference between secured and unsecured debt is simple.

A secured debt has a physical asset behind it that a lender or creditor can take if you default. Common examples include a mortgage or a car loan, both of which have a physical asset that can be resold. A nonsecured debt includes credit cards and personal loans, where the lender has no collateral and is simply relying on you to repay them with interest.

Just as with Chapter 7, Chapter 13 requires that you receive bankruptcy counseling first to see if there are any other viable options for your case. Again, it is best advised to hire an attorney to file the paperwork and to submit your bankruptcy petition to the court.

After the paperwork has been filed, creditors, lenders, and collection agencies must cease all collection efforts. If you have been contacted by creditors post-filing, be sure to write down their name and company and report it to your attorney.

After this, the court will appoint you a trustee. Fourteen days after you file your petition, you must submit a repayment plan. After 30 days, you must start making payments, even if your case has not been approved by the court.

As with Chapter 7, Chapter 13 will also require a “Meeting of Creditors” Any lender or creditor you have worked with and owe money is legally allowed to be apart of this meeting. This meeting will take place with your attorney present approximately 21-50 days after you file your petition. The members of the meeting are able to freely ask you about your financial situation.

After another 45 days, the trustee and any lenders or creditors will meet in a courtroom to discuss your payment plan. You will have anywhere from 3-5 years to pay off the debt. Before the end of your bankruptcy, you must also take a financial literacy course.

Now that you understand  how Chapter 13 works, let’s go over some pros and cons:

Pros:

  • You are granted up to 5 years to repay your missed mortgage payments. You can save your home from foreclosure with Chapter 13.
  • You will not be forced to liquidate or sell any assets under Chapter 13 bankruptcy.
  • You can lower some of your monthly payments on some debts
  • Your cosigner will not be liable for your debts
  • You can declare bankruptcy again as soon as you file.

Cons: 

  • Repayment plans can be hard. Almost all of your disposable income must be paid towards your debts. This can happen for up to 5 years.
  • Chapter 13 is more expensive to file with an attorney than Chapter 7 due to the extra paperwork.
  • There is a maximum amount you can file Chapter 13 for.

Who Should File for Bankruptcy

With up to 10 years of ruined credit, filing for Bankruptcy is not a joke. Do not feel guilty about filing for bankruptcy, as it is more common than you think. If you are burdened with a massive amount of medical debt with little ability to repay, you should file for bankruptcy immediately.

If you are also facing foreclosure, you can freeze the process by filing for bankruptcy. Although there is a chance you can lose your home under Chapter 7, filing for bankruptcy may allow you enough time to find an apartment and save enough for a security deposit.

If you have found it difficult to find a job and are struggling to make ends meet due to wage garnishment from collectors, filing for bankruptcy can actually help you.

If you are still debating about filing for bankruptcy due to a massive amount of debt, you must ask yourself if you think you can actually repay your debt within your lifetime with interest. If not, it’s best to file for bankruptcy and get a fresh start.

When Should People File for Bankruptcy


When You Shouldn't File for Bankruptcy

If you have just recently found yourself in a debt-filled situation and the bank isn’t threatening to foreclose your home, you should consider avoiding bankruptcy. You may have lost your job recently and had to use your credit to keep the lights on for a few months. If so, focus on repaying your debts with your new job.

Have you actually had a moment to sit down and add up all your income and expenses? If not, you could actually be making enough money but miss-spending it. You can sign up for online money trackers that can tell you exactly where your money is going. If you take the time to patch a few money leaks, you could be sitting on a big enough sum of money to repay your debts.


Final Note

Being under a mountain of debt is a challenge nobody wants to face. Bankruptcy is the only way to give yourself a clean slate while rebuilding your credit. Know that if you decide to file, bankruptcy can affect your credit for 7 years or more. If you are ready to start fresh with bankruptcy, we can help! Our nationwide network of attorneys are ready to give you a FREE no-obligation bankruptcy consultation today! Take a moment to fill out our free consultation form today to begin your fresh start!