What You Need To Know About Divorce and Bankruptcy

Divorce and bankruptcy often go hand in hand. Financial strain can lead to or worsen marital strife. Just as easily, a pending separation can negatively impact your financial stability. While you may need to seek legal relief on both fronts, it’s important to know how each impacts the other. 

This article contains useful general information on how divorce and bankruptcy affect one another. But it’s important to know there’s no one “right way” to approach these issues. Use this information, and seek professional help if needed, to decide what’s best for your personal situation.

Understanding Bankruptcy & Debt

To begin, it’s helpful to get familiar with the different types of bankruptcies and different types of debt.

Chapter 7 vs. Chapter 13

Most individuals and married couples file Chapter 7 or Chapter 13 bankruptcy. These are the two most common types of consumer bankruptcies.

Chapter 7 is what most people think of when they think of bankruptcy. In Chapter 7, you can walk away from some (and possibly all) of your debt and get a fresh start, usually in 4-6 months. Chapter 7 cases are sometimes called liquidation bankruptcies. That’s because the trustee administering your case has the right to take and sell any non-exempt property you own. 

This rarely happens though. Most Chapter 7 filers keep most (or all) of their personal property. If your case is successful, you’ll receive a discharge that erases the bulk of your debts. Not all debt can be erased in Chapter 7. We’ll get more into that soon.

Chapter 13 bankruptcy tends to be more complex, and it takes longer than Chapter 7. Filers must participate in a 3-5 year repayment plan and have enough disposable income to repay some of their debts. Chapter 13 is a good option if you make too much to qualify for Chapter 7 or if you own a home or car and you want to have the opportunity to catch up on past-due payments and keep your property.

Types of Debt

How your debts are treated in bankruptcy depends on what kind of bankruptcy you file and:

• Whether the debt is secured or unsecured.

• Whether the debt is dischargeable under the U.S. Bankruptcy Code. 

What’s the difference between secured and unsecured debt?

Secured debt is debt that’s tied to property, or “collateral.” The most common types of secured debts are mortgage loans and car loans. If you want to keep the collateral (your home or car), you must pay the debt — even if you file bankruptcy. 

The lender has the legal right to take the collateral back if you don’t make your payments as agreed. If you fall behind on your mortgage payments, the lender may foreclose on your home. If you’re behind on a car loan, you’re at risk of repossession. Chapter 13 bankruptcy offers more options for working with secured debt than Chapter 7 bankruptcy.  

Unsecured debt, on the other hand, is any debt that’s not tied to property. The most common examples of unsecured debts that get discharged in bankruptcy are medical bills and credit card bills. 

What kinds of debts can’t be discharged?

Not all unsecured debts can be discharged in bankruptcy. The Bankruptcy Code specifies which debts are dischargeable in bankruptcy. If a debt isn’t dischargeable, you’ll still have to pay it, even after a successful discharge.

Three types ofnon-dischargeable debts that often come up in divorce cases are tax debt, child support, and alimony payments. Most tax debts are classified as priority debt, which means they can’t be discharged in bankruptcy. Federal income taxes are usually priority debts unless they meet a complicated set of criteria.

Child support can’t be discharged in bankruptcy, no matter which chapter you file. True alimony — that is, payments meant to help support a former spouse — also isn’t dischargeable under either chapter of bankruptcy.

It’s important to note that you may be ordered to pay some marital debts as part of your divorce decree. Depending on the wording of the order, you could still be responsible for paying that debt, even if it’s discharged in bankruptcy.

Which Type of Bankruptcy Is Right for You?

Now that you know what the two most common types of bankruptcy are and what the three different types of debt are, we can talk about how to decide which type of bankruptcy is best for you to file. You’ll need to answer some important questions.

Do You Plan To File Bankruptcy With or Without Your Spouse?

One of the first issues you’ll need to address is whether you and your spouse intend to file bankruptcy together or not. If you’re still legally married, you can file bankruptcy without your spouse or you can wait until after the divorce to file bankruptcy. We’ll discuss some important considerations on this topic below.

Are You Eligible for Chapter 7?

Not everyone can file Chapter 7. To qualify, you must pass a means test. If your current monthly household income is less than the median income for your household size in your state then you’ll immediately qualify. If not, you can take the second part of the test. Here, you’ll calculate your income and expenses to see how much disposable income (if any) you’re left with to repay your debts. 

Household size matters a lot in the means test. And it may factor into your decision to file jointly with your spouse or as an individual. You may find that if you file jointly, your combined income is too high for your household size to qualify for Chapter 7. But if you divorce or separate first, you might then both individually qualify for Chapter 7 with your respective household size and incomes.

If you don’t pass the means test, you don’t qualify for Chapter 7. But, you may still be able to file Chapter 13 bankruptcy. We’ll talk about some pros and cons of Chapter 13 during divorce below.

Which Order Is Best? Bankruptcy First or Divorce?

It truly depends on your circumstances. Let’s take a look at a few different options below and discuss the pros and cons.

Filing a Joint Chapter 7 Before or During a Divorce

Filing Chapter 7 bankruptcy jointly with your spouse, even if a divorce proceeding is underway, has many benefits and drawbacks.

Benefits of Filing Chapter 7 Jointly

There are many potential benefits to addressing your finances before your divorce by filing a Chapter 7 case jointly with your spouse. 

• It may be less expensive. You can save on attorney fees as well as court fees.

• You can discharge some (or all) marital debt. When you’re married, you may be liable for debt that was incurred during your marriage, even if it isn’t “yours.” Having eligible marital debts discharged in bankruptcy means you aren’t on the hook for paying these debts after your divorce.

• It may make the divorce process quicker and smoother. Getting rid of your debts can make the division of assets in your divorce easier since you won’t have to account for most (or all) of the debts. 

• You might be able to protect more property by filing together. You protect property in bankruptcy by using exemptions. Many states allow married couples filing jointly to double most of the exemptions. This means you can often protect more property by filing jointly.

Drawbacks To Filing Chapter 7 Jointly

There are two main potential drawbacks of filing Chapter 7 jointly with your spouse before or during a divorce. 

• You may not get along well enough to work together on your bankruptcy. If you’re getting divorced because you don’t have a good relationship with your spouse or you can’t agree on important matters, it may not be possible to successfully file for Chapter 7 bankruptcy together. Bankruptcy requires a lot of paperwork and patience. It can be stressful. Try to avoid putting yourself in a position that worsens the potential stress.

• It can stall your divorce proceeding. As soon as you file a bankruptcy case the automatic stay goes into effect. This stops most other court proceedings. This can be great if you’re facing foreclosure, repossession, or wage garnishment, but it’s not so good for your divorce case. It’ll stop the divorce in its tracks until the bankruptcy case is over. It won’t stop the divorce court from entering or enforcing support orders, though.

Filing an Individual Chapter 7 After Divorce

Filing on your own after the divorce is complete may be a better option if you and your spouse aren’t on good terms. This will allow you to put the marriage behind you as quickly as possible. Then you can address your financial situation and start a new chapter on your own. Remember that filing bankruptcy before your divorce is final will stall the divorce proceedings. If you file Chapter 7, it’ll be for a few months, but if you file Chapter 13, it’ll be 3-5 years. 

As we discussed above, this may also be the best option if you can only qualify for Chapter 7 with your individual income and a separate household.

Filing Chapter 13 Before or After Divorce

Chapter 13 cases are more complex, more expensive, and take much longer than Chapter 7 cases. It might be the right solution for you based on your circumstances, but it’ll likely delay your divorce for the duration of the bankruptcy. Because of that, you’ll want to carefully consider the pros and cons of filing Chapter 13 before divorce versus filing it after.

If you’re primarily filing Chapter 13 to protect an asset (like your home), you may need to decide whether the asset is emotionally and monetarily worth delaying you from moving on with your life. Keep in mind that Chapter 13 takes a minimum of three years.

Let’s Summarize…

Deciding when to divorce and when and how to file bankruptcy is highly personal. There are no right or wrong answers. Consider what’s best for your current circumstances and goals. If you and your spouse still get along, you may consider filing Chapter 7 together before you get divorced so you can benefit from larger exemptions and wipe out marital debts to ease the divorce process. But take note, once you file your bankruptcy case, the automatic stay goes into effect, which will delay your divorce until the bankruptcy is finalized.

If you and your spouse don’t get along, you may want to forgo the benefits of filing jointly before your divorce and get divorced first. Then you can file your bankruptcy case individually, and get a fresh personal and financial start. If you aren’t sure which option is best for you, you can consult with an experienced bankruptcy attorney or contact a local legal aid office. If you want to file Chapter 7 (with or without your spouse) and you have a simple case, you can use Upsolve’s filing tool to file your case for free.