Why Is Chapter 13 Probably a Bad Idea?

What Is Chapter 13 Bankruptcy?

Chapter 13 bankruptcy is the second most common type of personal bankruptcy after Chapter 7. Chapter 13 is also called the wage earner’s plan because it allows people with a regular income to reorganize and repay debt through a year repayment plan. If you successfully complete the Chapter 13 plan, your remaining eligible debts are erased. Note that doesn’t include certain debts like student loans, child support, alimony, and tax debts.

One of the biggest advantages of Chapter 13 is that it can help you avoid losing your home or other important property. But it’s important to know the potential downsides. 

Who Should File Chapter 13 Bankruptcy?

Chapter 7 cases are resolved much faster than Chapter 13 cases, and they wipe out all eligible debt — no repayment required. But not everyone is eligible to file Chapter 7, and it may not be ideal for people who have valuable assets, like a home, that they want to protect.

If you take the means test and find that you have too much disposable income to qualify for Chapter 7, you may want to explore Chapter 13 instead. Similarly, if you have a lot of equity in a home or other expensive property, you may want to look into Chapter 13. It can provide protection against collections actions like wage garnishment. 

Chapter 13 has some upsides: It can help you catch up on secured debts like your mortgage payments or car loan. It can also make your monthly debt payments more manageable.

If you’re mostly dealing with credit card debt and medical bills and don’t qualify for Chapter 7, you can also explore your other debt relief options — including debt management plans, debt consolidation, and debt settlement — using our free tool.

What Are the Downsides of Chapter 13 Bankruptcy?

Every type of bankruptcy has its pros and cons. But Chapter 13 has some serious red flags you’ll want to consider before you file.

Many Chapter 13 Bankruptcies Fail

A study from the American Bankruptcy Institute found that less than 40% of Chapter 13 cases are successful. In other words, more than half of Chapter 13 filers don’t complete their payment plan. By contrast, 95% of Chapter 7 bankruptcies end in a successful discharge. And that’s due in large part to the fact that Chapter 7 cases are much simpler and quicker.

The main reason so many Chapter 13 cases fail is that it’s difficult to stick to the required 3–5-year repayment plan. Most payment plans under Chapter 13 are five years long. As you can imagine, a lot can happen in five years! It’s not uncommon for people’s financial situation to change due to a job loss, unexpected medical bills, or other unexpected expenses.

If you miss your regular monthly payments, the bankruptcy trustee can ask the court to dismiss your case without discharging any debt. If this happens, you’d lose bankruptcy protection and still owe your debts.

Chapter 13 Is More Expensive Than Chapter 7

Chapter 13 cases take a long time and are more complicated than Chapter 7 cases. That’s one reason they’re more expensive. The other related reason is that you’ll need to hire a lawyer to file Chapter 13.

As previously mentioned, the Chapter 13 success rate isn’t very high to begin with, but it drops extremely low — to just 2.3% — for people who file without a lawyer. In other words, it’s nearly impossible to file a successful Chapter 13 bankruptcy without hiring a lawyer. (The same isn’t true for Chapter 7.)

Bankruptcy lawyers who handle Chapter 13 cases tend to be expensive. This is because these cases are long and complex. Fees vary by lawyer and state, but many bankruptcy attorneys charge at least $3,200 to file a Chapter 13 bankruptcy, compared to $1,500 for Chapter 7. 

Myth: You Can Easily Pay “No Money Down”

One popular reason for choosing Chapter 13 is because it can often be filed with “no money down.”

Unlike Chapter 7, where you have to pay legal fees up front, Chapter 13 attorney fees can be extended over the five-year life of the plan. As a result, many law firms allow debtors who cannot afford Chapter 7 to file for Chapter 13 with “no money down.”

Though that might sound like a good idea if you’re cash strapped, it rarely is. A recent national study suggests that “no money down” filers actually pay $2,000 more and their cases are dismissed at a rate 18 times higher than if they had filed Chapter 7.

That means they don’t get the relief from the debt that prompted them to file bankruptcy in the first place.

Nevertheless, attorneys will still offer this option because there is at least a possibility that you’ll succeed. And even if you fail, the attorney can still make money from the fees that are paid before dismissal.

Chapter 13 Bankruptcy May Leave You in a Worse Financial Position

As mentioned earlier, most Chapter 13 bankruptcy cases don’t succeed. If your case is dismissed, you could find yourself in a worse financial position than when you started. That’s because, during the repayment plan, interest on your unpaid debts keeps adding up. Once the case is dismissed and you're no longer under bankruptcy protection, you could end up owing even more thanks to that accumulated interest.

On top of that, you'll have already paid significant costs, including attorney and filing fees, without getting the main benefit of bankruptcy: a fresh start. Plus, the bankruptcy will still appear on your credit report for seven years, even though you didn’t complete the process. This can hurt your credit score and make it harder to take out new credit.

Myth: Chapter 13 Usually Improves Your Budgeting Skills

Another argument made in favor of Chapter 13 is that it teaches you to live within a budget.

“With a Chapter 7, wham bam it’s over, and they’re back to the same old thing, the bad habits that got them in trouble to begin with,” says Arthur Ray, a bankruptcy attorney in Memphis. By contrast, says Ray, “a Chapter 13 shows people how to live without buying things for that 60-month plan.”

That’s definitely true for the 33% of cases where debtors actually complete their plans. But, as we know, most debtors don’t complete their 3–5-year plan. For those cases that fail, there is no lasting debt relief and most likely no lasting budgeting improvement either.

Black Debtors Are Far Less Likely To Receive Debt Relief Under Chapter 13

One of the most alarming trends relating to Chapter 13 is the data showing that is not applied evenly.

Across the country, the odds of black debtors choosing Chapter 13 instead of Chapter 7 are more than twice as high as for white debtors with similar finances. And once black debtors choose Chapter 13, the odds of their cases being dismissed — with no relief from their debts — are roughly 50% higher.

You May Not Get To Keep Your Stuff

One of the most popular reasons for filing for Chapter 13 is to keep one’s assets, like a home or a car. “Chapter 13 is generally a ‘keep your stuff’ chapter,” says Bert Benham, a Memphis bankruptcy attorney.

The reality, however, is that because roughly two-thirds of Chapter 13 cases fail, most of the time Chapter 13 doesn’t help you keep your property. Desperate Chapter 13 filers can spend years and multiple bankruptcy cases trying to save a car from repossession.

Take this story of a Memphis resident, interviewed by ProPublica, who filed for Chapter 13 four times in the past seven years to hold on to her car:

The first time, she lost her job a year and a half after filing, and her case was dismissed after she fell behind in her payment plan. She immediately filed again to keep the car for job interviews, using unemployment benefits to make the payments until she couldn’t, triggering a second dismissal. She then filed a third time.

Finally in 2014, after her third dismissal, she got a new part-time job paying $11 an hour and filed again. She still has two years of payments to go and will have spent most of her 30s trying to hold on to her car. “If I’d known,” she said, “I just would have let my car go.”

Considering how few Chapter 13 cases result in discharge, how much are you willing to pay for the slim chance of protecting your property in Chapter 13?

Chapter 13 May Not Help You Get Your Driver’s License Back

A popular use of Chapter 13 in recent years has been to recover a suspended driver's license. Driver’s licenses are frequently suspended by city and state governments when the driver owes a significant amount of parking or traffic tickets.

Unpaid tickets cannot be discharged in Chapter 7, but they can be discharged in Chapter 13. So, many debtors file Chapter 13 to get their driver’s license back as shown in this video by ProPublica.

Parking and traffic tickets cause so many bankruptcies in Chicago, the bankruptcy court there leads the country in Chapter 13 filings. Unfortunately, ProPublica’s research showed that less than 25% of Chapter 13 cases involving ticket debt ended successfully.

Most of these debtors paid thousands of dollars in legal fees before their cases were dismissed, without a dime going to pay down their traffic tickets.

As soon as their cases are dismissed, debtors risk losing their cases and licenses again, leading to a cycle of more debt and potentially more bankruptcies.

Let’s Summarize…

Chapter 13 can be a valuable tool in some cases. But in most cases, it’s an expensive mistake that produces no lasting debt relief. When possible, Chapter 7 is a much better solution — even if it requires getting rid of expensive assets.

We may love our home, our apartment, or our vehicle. But we still may be financially better off getting rid of them to eliminate the debt attached to them and other unsecured debt like credit cards and medical debts.

“It’s not rocket science, I can tell you that,” says Brad George, a Memphis bankruptcy attorney who has practiced for over 20 years. If there’s an important reason to file a Chapter 13, like a foreclosure or driver’s license issue, he will file one. Otherwise, he says, “I think you should try and always, always, always do a [Chapter 7].”