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BANKRUPTCY "CHAPTERS": an Overview of Common Personal Bankruptcy Actions

There are five main types of bankruptcy cases set forth in the United States Bankruptcy Code. The two types most commonly used by individuals to file personal bankruptcy are Chapter 7 and Chapter 13.

Chapter 7 Bankruptcy

A Chapter 7 case (referred to as "liquidation" or "fresh start"), is a bankruptcy court-supervised procedure by which a trustee (an individual appointed by the United States Department of Justice to oversee specific bankruptcy cases) collects the assets from the person filing the case (this person is known as a debtor), sells the assets and pays the debtor's creditors with the sale proceeds (a creditor is the person or entity to whom money is owed by the debtor). In a Chapter 7 case the debtor has a right to keep certain property - this is determined by state or federal laws and is referred to as exemptions or exempt property. A creditor whose debt is secured by property (i.e. there is a lien or a mortgage on that property) has a right to repossess or foreclose on that property if the debtor does not continue making payments on that debt - even if bankruptcy has been filed. In those cases where the property is exempt or has no equity, and where the debtor is current or relatively current on the amounts owed on the debt secured by the property, the debtor can keep that property by agreeing with the creditor to pay what the creditor is owed on the debt. In most Chapter 7 cases, the debtor has little or no property that is not exempt or that has any equity or value. The trustee will only sell non-exempt property that has equity (i.e. is worth more that what is owed on the property) since it is one of the trustee's goal is to obtain money to pay the debtor's creditors. If the debtor owes more on an item of property than what it is worth, there will be no proceeds generated by the sale of that property by the trustee (since the secured creditor must be paid from the sale proceeds first - and, as such, the trustee does not even bother to attempt to sell property with no equity). Therefore, in most Chapter 7 cases, there will not be an actual sale of the debtor's property - these are referred to "no-asset cases."

Chapter 7 bankruptcy is usually selected by the debtor when the debtor owns no real property or has no equity in the real property that is owned (and is current on all payments to any secured creditors holding mortgage or liens on the property), when his or her personal property is either exempt, has no equity or is of little value, and when the debtor has significant unsecured debts (most credit card debt, medical bills, personal loans, etc.) that are intended to be discharged. Since the debtor can, in those situations, eliminate unsecured debt and retain his or her real and personal property, this type of bankruptcy is attractive to qualified persons.

Chapter 13 Bankruptcy

By contrast, a Chapter 13 case (a debt repayment type of bankruptcy), enables the debtor to keep certain assets, such as a house or a car, by making payments to the trustee and/or the secured creditor over time. It is different from a Chapter 7 because it allows the debtor to submit a "plan" to the trustee that sets for a payment schedule to creditors over time, usually three (3) to five (5) years. The bankruptcy court must hold a confirmation hearing and determine whether the plan should be confirmed or needs modification in order to be confirmed. The Chapter 13 debtor typically remains in possession of the property of the estate and makes payments to creditors through the Chapter 13 trustee. The payments are based on the debtor's anticipated disposable income over the life of the plan (disposable income being the debtor's income minus the debtor's allowed expenses). Unlike Chapter 7, a Chapter 13 debtor does not receive an immediate discharge of debts. The debtor must complete the payments required under the plan before the discharge is received. The debtor is protected from lawsuits, garnishments, and other creditor action while the plan is in effect. The discharge is also considerably broader (i.e., more debts are eliminated) under Chapter 13 than the discharge under Chapter 7.

Note that with the amendment to the bankruptcy laws in October, 2005, those debtors whose income exceed their state's "median income" may no longer be qualified to file a Chapter 7 case - and may be required to look to Chapter 13 for relief. Each state has a "median state income" (and this number is based upon the number of persons living in the household) - if the debtors' total household income is below the median number (or if their allowable expenses bring the debtors' income below a certain level), the debtors can continue to seek a discharge of their debt through the Chapter 7 process.


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DISCLAIMER REGARDING LEGAL ADVICE: None of information contained on this web site is intended to constitute legal or other professional advice, and you should not rely solely on the information contained on the site for making legal decisions. When necessary, you should consult with an attorney for specific advice tailored to your situation.


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