Bankruptcy is a legal tool to obtain debt relief and get a fresh start. Chapter 7 and Chapter 13 bankruptcy are the most common types. This article explores consumer bankruptcy basics, the different types of bankruptcy, and the bankruptcy process overall.
Written by Attorney Andrea Wimmer.
Updated July 22, 2020
Bankruptcy is a legal tool giving people and businesses relief from debt. It’s a way for folks in a tough financial situation to get a fresh start. The two most common types of bankruptcy filed by individuals and married couples are Chapter 7 and Chapter 13 bankruptcy. They are named based on the chapter in the U.S. Bankruptcy Code that regulates how they work.
This article will guide you through some consumer bankruptcy basics, explain the difference between the types of bankruptcy, and provide an overview of the bankruptcy process.
Bankruptcy Basics - In a Nutshell
Getting a discharge is the goal. The bankruptcy discharge permanently eliminates the filer’s obligation to repay their debt. As long as the filer meets all legal requirements, a discharge will be granted by the court. The bankruptcy discharge is permanent and applies to all debts, except those designated as non-dischargeable in the Bankruptcy Code. First time filers are able to receive a discharge under any type of bankruptcy.
Relief is immediate. Filing bankruptcy provides an immediate breathing spell for the filer. As soon as a bankruptcy case is filed with the court, bankruptcy law dictates that debt collection has to stop right away. This is called the automatic stay.
A federal court oversees bankruptcy proceedings. A United States Bankruptcy Court receives the bankruptcy filings, enforces the provisions of the Bankruptcy Code, decides disputes between the parties, and grants the discharge order.
Dealing with the bankruptcy trustee so you don’t have to deal with your creditors. Creditors play a very small part in most personal bankruptcy cases. Instead, a bankruptcy trustee is appointed to handle the on-the-ground aspects of the case. The trustee is charged with making sure the filer is honest and determining whether certain creditors can be at least partially repaid.
Most Chapter 7 filers keep all their belongings. Whether a bankruptcy proceeding under Chapter 7 results in a payment to creditors depends on the filer’s property. If all of it is exempt property, unsecured creditors receive nothing. That’s the case in more than 95% of all Chapter 7 bankruptcy cases filed in the United States.
Some debts can’t be eliminated by filing bankruptcy. Certain types of unsecured debt are excluded from discharge by the Bankruptcy Code. These non-dischargeable debts include:
Child support and alimony (sometimes called domestic support obligations)
Student loan debt, with very rare exceptions
Recent tax debts
Other debt may be declared non-dischargeable by the bankruptcy court if it’s the result of fraud, willful destruction of property, or certain other malicious actions.
The Different Types Of Bankruptcy
Chapter 7 and Chapter 13 bankruptcy filings are most common among individuals and married couples. High wage earners, folks with a lot of valuable property or business interests, and those with extremely high debt sometimes file Chapter 11 bankruptcy. Family farmers and fishermen with regular income can choose to file a Chapter 12 case. Chapter 12 is designed to specifically address the unique challenges that come with running a family farm or fishing operation.
Chapter 7 Bankruptcy
Chapter 7 is by far the most popular type of personal bankruptcy. It wipes out most unsecured debts. Unsecured debts include debts like medical bills, personal loans, payday loans, and credit card debt. Past-due rent and utility bills are also unsecured debts. All of the types of debt listed here can typically be wiped out in a successful Chapter 7 case.
Chapter 7 bankruptcy provides the quickest form of bankruptcy relief available in the United States. As long as the filer completes all required steps and certain deadlines have passed, the bankruptcy court enters the discharge order. This means the bankruptcy discharge is typically granted within 3 - 4 months of filing the case with the bankruptcy court. As soon as this happens, the filer can take advantage of their fresh start and begin rebuilding their credit score.
There are some limitations, though.
Secured Debts In Chapter 7 Bankruptcy
Chapter 7 generally won’t help with secured debts, such as mortgage and car loans, if the filer’s goal is to keep the house or car securing the debt. Folks that are not behind on their mortgage or car loan are able to keep the property, but only if they are willing to continue paying for it. Since it is such a short process, Chapter 7 is not a good fit for someone who briefly fell behind on their mortgage or car loan but wants to catch up and keep the property.
Non-dischargeable Debts In Chapter 7 Bankruptcy
Chapter 7 does not provide relief for non-dischargeable debts. Once the bankruptcy discharge is granted, the creditor (typically the IRS, the state taxing authority, or a former spouse or partner) can immediately start trying to collect their debt again. They can even start or resume a wage garnishment. Those with a regular income who owe tax debt, child support, or alimony are often better served by filing bankruptcy under Chapter 13 of the Bankruptcy Code.
Not Everyone Qualifies For Chapter 7 Bankruptcy
Congress wanted to make sure a filer’s financial situation made a debt repayment plan impossible before allowing debt relief under Chapter 7. This eligibility analysis, called the means test, is based on the filer’s household income. If their income is less than the median household income for a family of the same size in the same state, they qualify for Chapter 7 relief. Income from social security is not counted in the means test.
Folks with a regular income greater than the median may still be eligible for a Chapter 7 bankruptcy filing. The second part of the means test analysis follows a complicated and strict formula to compare the filer’s income to their expenses. If the means test shows that the filer does not have any disposable income, they qualify for a Chapter 7 bankruptcy filing. All others are limited to a repayment plan under Chapter 13 of the Bankruptcy Code.
How Creditors Are Paid In A Chapter 7 Bankruptcy
Unsecured creditors only receive money if the filer has nonexempt property, which is rare. Taking away a filer’s property does not match up with the Bankruptcy Code’s intended purpose: To give the honest but unfortunate debtor a fresh start. That’s why bankruptcy laws allow debtors to protect their property using exemptions.
These exemptions are based either on state law or federal law, including the U.S. Bankruptcy Code. Some states require their residents to use state law to protect exempt property. Others allow filers to choose the federal bankruptcy exemptions instead.
Most exemptions protect your typical “stuff” usually up to a certain amount. Things like furniture, clothing, tools of the trade, and cars are generally protected by an exemption. The same is true in most states for equity in real estate that is used as a home.
Some states and the federal bankruptcy laws include a wildcard exemption. This type of exemption can be used to protect property of any kind.
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Chapter 13 Bankruptcy
This type of bankruptcy involves a debt repayment plan. During the term of the Chapter 13 plan - at most 5 years - the filer makes regular monthly payments to the Chapter 13 bankruptcy trustee.
Chapter 13 is often a good option for people who don’t qualify for Chapter 7 because they have too much income. But, they’re not the only ones who opt for Chapter 13.
Some people who qualify for Chapter 7 under the means test choose Chapter 13 instead because:
They have non-exempt assets they want to keep
They have secured debt, such as mortgage loans, that they want to bring up to date through the bankruptcy repayment plan
They want to use the Chapter 13 process to reduce balances due and interest rates on certain types of secured debt
They want to convert second mortgages into unsecured debt through a process called “lien stripping,” which is only available when the first mortgage exceeds the value of the property
Although Chapter 13 typically requires repayment of at least some unsecured debt, any dischargeable, unsecured debt remaining at the end of a successful repayment plan is eliminated when the discharge is entered.
Since the legal process involved in a Chapter 13 is much more nuanced, filing Chapter 13 without a lawyer is generally not a good idea. Having an experienced bankruptcy attorney who knows the ins and outs of Chapter 13 in your state by your side will greatly improve your chances of accomplishing your debt relief goals through a successful bankruptcy filing.
The 10 Steps of Filing Bankruptcy
Chapter 7 and Chapter 13 start with the same 9 steps. But, once a Chapter 13 is filed, the filer has to propose and confirm a debt repayment plan, which is pretty complicated and will not be covered here. Instead, step 10 will provide an overview of how to handle your car loan in Chapter 7 bankruptcy.
Step 1 - Collect Your Documents
You’ll need to provide the bankruptcy court and the bankruptcy trustee with a lot of information. Some of the information you’ll have to put in your bankruptcy forms, and some documents have to be provided to the trustee in addition to the forms.
Get a recent copy of your credit report and collect your paycheck stubs, tax returns, bank statements and any other documents showing your income, your debts, your assets and your expenses.
Step 2 - Take Credit Counseling
Every person filing bankruptcy has to complete credit counseling from an approved credit counseling agency before their case can be filed. You can take this class anytime during the 6 months before filing bankruptcy.
Step 3 - Complete The Bankruptcy Forms
This step involves the most work and time. Whether you’re working with a lawyer, legal aid, or are doing it yourself, there are a minimum of 23 different bankruptcy forms you’ll have to complete as part of your bankruptcy filing. If someone is helping you, you’ll likely provide the necessary information as part of a questionnaire. If you’re filing pro se (without a lawyer), you’ll have to fill out the forms yourself either by hand or through a program like Adobe. If you’re eligible, Upsolve’s free web app will guide you through the process of completing your forms.
Step 4 - Get Your Filing Fee
United States courts charge $310 for a Chapter 13 filing and $335 for a Chapter 7 filing. If you’re filing Chapter 7 bankruptcy and your household income is less than 150% of the federal poverty guidelines, you’re eligible to ask the court for a waiver of this fee. Otherwise, be ready to pay the full fee in the form of a cashier’s check or money order when you go to the court to file your case. If you have to file quickly, but don’t have the full amount, you can ask the court for permission to pay the fee in installments by filing this form along with your bankruptcy petition.
Step 5 - Print Your Forms
In most districts, only bankruptcy attorneys are able to file cases electronically. For people filing without an attorney, most bankruptcy courts require that all bankruptcy forms be submitted in hardcopy. Print one copy to sign and submit to the court and if you can, print a copy for yourself at the same time.
Step 6 - File Your Bankruptcy Forms
Whether you go there in person, or send them in by mail, submit all of your bankruptcy forms and your court filing fee (or application for waiver/installments) to the court clerk’s office. This will officially start the case. Once done, you’re protected by the automatic stay.
Step 7 - Mail Documents To Your Trustee
Once a trustee is assigned to your case, they’ll send you a request for certain supporting documents. At minimum, you will need to send your recent paycheck stubs and tax returns to the trustee.
Step 8 - Take Debtor Education Course
Before you can get your bankruptcy discharge, you have to complete a debtor education course through an approved provider. You have up to 3 months from your bankruptcy filing date to complete this requirement, but it’s typically best to get it out of the way so you don’t forget later. Once done, submit your certificate of completion to the court to let the bankruptcy judge know that you’re ready for your discharge when the time comes.
Step 9 - Attend Your 341 Meeting
About a month after filing your bankruptcy, your 341 meeting will take place. It’s one of the requirements to get your discharge. You’ll need your picture ID and social security card for this meeting. Even though they’re sometimes called the Meeting of Creditors, most 341 meetings involve only you and your trustee and take less than 5 minutes to complete.
Step 10 - Dealing With Your Car Loan
If you have a car loan and want to keep the car, you can either reaffirm the debt or redeem the vehicle. Reaffirming the debt basically keeps everything the same with respect to your car loan, though sometimes lenders will make certain concessions as part of the reaffirmation process. Redemption is much less common as it requires you to pay the market value of your car to the lender in one lump sum to redeem it.
Free Chapter 7 Bankruptcy Filing with Upsolve
Many people who file bankruptcy have suffered big setbacks resulting in a stressful financial situation. Some examples include divorce, job loss, or a serious illness that left them with huge medical bills. Others have simply fallen behind, then been unable to catch up as late fees and interest increased credit card debt and other debts to unmanageable levels.
Having to pay several hundreds of dollars in attorney fees in addition to the court filing fee is simply not an option for many in this situation.
Eligible individuals can use Upsolve’s free web app to prepare their bankruptcy forms and file their Chapter 7 case without a lawyer. Our app is free for those who qualify. If you’re ready to free yourself from debt and move into a better life, just answer a few questions to find out whether we can help you navigate the process and get your fresh start!