Bankruptcy is a process by which a debtor can obtain relief from his debts, through the courts. This relief may come in a variety of forms, including full or partial discharge of the debt, or the imposition of a payment program consistent with the debtor's financial means.
The most common types of bankruptcy are:
Chapter 7 ("Straight Bankruptcy" or "Liquidation")
When people think of bankruptcy, they have traditionally thought in terms of "Chapter 7" personal bankruptcy. In a "Chapter 7" bankruptcy:
- A trustee is appointed to oversee your property;
- Some of your assets will likely be surrendered to the trustee, who will sell them to pay your creditors;
- Depending upon the laws of your state, you will be allowed to keep some personal property, and probably an interest in your home (although perhaps not all of your equity).
- Most debts are cancelled.
There are income restrictions on who will qualify for a Chapter 7 discharge. Assuming those restrictions do not apply, you will most likely be unable to file a "Chapter 7" bankruptcy if you have filed and dismissed a "Chapter 7" petition in the last 180 days, or if you were granted or denied a "Chapter 7" discharge in a prior case within the past six years. You should discuss your case with an attorney, as you may qualify for an exception.
This is primarily used by businesses. Although it is available to individuals, the increased cost and complexity of "Chapter 11" bankruptcy makes it undesirable for most people. Most "Chapter 11" petitioners owe debt in excess if the "Chapter 13" limits. This form of bankruptcy allows a business to remain in operation, while sheltering it from some of its debts.
Chapter 13 ("Wage-Earner Bankruptcy")
In a "Chapter 13" Bankruptcy:
- You will propose a repayment plan for your debts;
- If approved by the court, a trustee will be appointed to collect your payments, distribute them to your creditors, and to supervise your compliance with the repayment plan.
- You will have to pay the trustee's fee, which can be substantial.
Debtors whose debts exceed certain limits are barred from seeking Chapter 13 bankruptcy. (At the time of this writing, in order to file a "Chapter 13" bankruptcy, you must owe less than $290,525 in noncontingent, liquidated, unsecured debts, and less than $871,550 in noncontingent, liquidated, secured debts. You will most likely be unable to file a "Chapter 13" bankruptcy if you have filed and dismissed a "Chapter 13" petition in the last 180 days, and should discuss any prior filing with your attorney. You should also take care to propose a reasonable budget, as most debtors find themselves unable to comply with the strict enforcement of their "Chapter 13" plans, and end up dropping out of bankruptcy before their plan is completed.
This type of bankruptcy can be particularly useful when a debtor believes that his financial crisis is temporary, and that his income will continue to grow in the future. Corporations and partnerships cannot file a "Chapter 13" bankruptcy.
A so-called "Chapter 20" bankruptcy is the process filing of a "Chapter 7" bankruptcy to discharge unsecured debts, followed by a "Chapter 13" bankruptcy to allow the debtor to catch up on mortgage payments. The 2005 Bankruptcy Reform Act attempts to limit "Chapter 20" bankruptcies by imposing limits on the filing of successive bankruptcies. Under current bankrupcy law a Chapter 13 bankruptcy may be filed only once every two years, and three years must pass after the filing of a Chapter 7 bankruptcy before a Chapter 13 filing. Some debtors attempt to circumvent this restriction by filing for Chapter 13 protection while the Chapter 7 petition is still pending. That option is not available in all courts. In a "Chapter 20" bankruptcy, debtors should be aware that missing even one mortgage payment after filing the initial "Chapter 7" petition may cost them their ability to save their home in a subsequent "Chapter 13" filing.
After you declare bankruptcy, an "automatic stay" of your debts takes effect. Your creditors will be served with notice of the bankruptcy, and, after receiving notice, will be barred from taking certain actions against you while the bankruptcy is pending.
If you are contacted by a creditor after filing for bankruptcy, tell your attorney -- it is important that your attorney know not only of improper contacts, but of any possibility that a creditor was omitted from the list of creditors you submitted with your bankruptcy petition, or of the possibility that notice was not properly served.
If a creditor is intentionally violating the automatic stay, your attorney can bring their misconduct to the attention of the bankruptcy court.
Reaffirmation is a procedure by which you agree to pay a debt that would otherwise be discharged in bankrutpcy. As was previously described, you may wish to keep your car, and thus may agree with your lender to continue to be responsible for the car loan. If you make the choice to "reaffirm" a debt, you will file a reaffirmation agreement with the Court, which will evaluate that agreement. It is up to the Court whether or not the agreement will be approved. Before a Court will approve a reaffirmation agreement, it must believe that the agreement:
- Is voluntary;
- Is in your best interest; and
- Will not create an undue hardship.
You may be able to cancel a reaffirmation agreement, within sixty days of filing it with the court, or before your bankruptcy petition is approved. Be cautious with reaffirmation, as you will continue to owe the debt as if you had never filed for bankruptcy.
"Conversion" is the process of transforming a "Chapter 7" petition for bankruptcy relief into a "Chapter 13" filing, or vice versa. It may become apparent during the course of a bankruptcy that a debtor will be better served through the "conversion" of his petition. However, the debtor is not permitted to keep switching back and forth between chapters, and should be careful about taking this step.
Under rare circumstances, creditors may petition a court to have a debtor declared insolvent. If the court grants relief, as the bankruptcy occurs without the debtor's consent, this is termed an "involuntary bankruptcy." Involuntary bankruptcies occur only under Chapters 7 and 11, and not under Chapter 13. If a petition for involuntary bankruptcy is denied, a debtor may be awarded attorney fees and costs, and may even receive punitive damages, depending upon the facts of the case.
A "Fraudulent Transfer" is the exchange of property prior to the filing of a bankruptcy petition for inadequate value, in an effort to shield the asset from the bankruptcy. Pursuant to the "Uniform Fraudulent Transfer Act", a Court may bring certain property back into the estate, if it was improperly transfered. However, if property was sold for its reasonable market value, a Court cannot recover the property.
A "Preference" occurs when a debtor treats one creditor more favorably than another. For example, a debtor may choose to use all of its assets to pay off the entire debt owed to one creditor, leaving a second unable to collect any money at all. A Court will disallow a preference if payment is made for the benefit of a creditor, for a debt owed prior to the intitiation of bankruptcy, the payment is made while the debtor is insolvent, and the transfer is made within 90 days of the debtor's filing the bankruptcy petition (or 1 year, if the payment was made to an "insider" such as a relative or corporate director). A creditor receiving a "preference" may be forced to restore it to the debtor's estate.
While most debtors are granted relief, in certain situations a Court may refuse to grant bankruptcy. Typically, denials result when the Court concludes that:
- The debtor failed to adequately explain the loss of assets;
- The debtor committed perjury during the course of the bankruptcy;
- The debtor failed to obey the lawful orders of the bankruptcy court;
- The debtor fraudulently transfered, concealed, or destroyed property that should have been included in the estate.
This depends in large part upon whether your debt is individually or jointly held, and upon the laws of your state. Be sure to discuss this issue with your bankruptcy attorney.
The cost of bankruptcy will vary substantially, depending upon the complexity of your case and the type of bankruptcy you file. You may be able to obtain a "Chapter 7" personal bankruptcy for a relatively small flat fee, while the cost of a "Chapter 11" bankruptcy can easily exceed $15,000 in the first year.
The U.S. Bankruptcy Court for your jurisdiction, along with bankruptcy forms, information about court procedures, and filing fees, can now be found on the U.S. Bankruptcy Courts website.