What is Bankruptcy?
Bankruptcy law outlines procedures for individuals, married couples, or businesses to reduce or eliminate debt. It’s not an easy solution to debt problems, and it comes with serious consequences for your finances and credit.
The laws that govern the process are part of the U.S. bankruptcy code. This includes five different types of bankruptcy with various options and processes for reorganizing, structuring repayments, or eliminating debt under the court’s protection.
Bankruptcy procedures and the administration of cases are handled by the U.S. Trustee Program, part of the Department of Justice. Cases go through the U.S. Bankruptcy Courts.
Types of Bankruptcy
Federal law describes five different types of bankruptcy. These are generally organized into those that require liquidation of your assets to pay debt and reorganization, which requires structured repayment plans for debt.
Both individuals and businesses may choose to file Chapter 7 bankruptcy. Individuals must pass a chapter 7 means test to qualify. Generally, if your income is lower than the state median, you qualify. It wipes out unsecured debts (credit card debt and personal loans) and liquidates your assets to repay other debts.
You cannot be forced to liquidate your house, car, or clothing during this process. For secured debt, you can either continue repayments or allow the creditor to repossess the collateral securing the debt. Other types of debt that cannot be eliminated by chapter 7 include alimony or child support and taxes.
Chapter 9 bankruptcy is not for individuals or businesses. Chapter 9 is a process designed to help municipal governments reorganize. It also includes community entities, such as school districts and public hospitals.
Chapter 11 is a highly-structured, lengthy process usually used by corporations. The costs of filing for chapter 11 are high, which means that while individuals may use the process, they rarely do. The process helps businesses pay off debt and reorganize.
This is a restructuring type of bankruptcy similar to chapter 13. Chapter 12 is reserved for family farms and family fishing businesses. No one else or another type of business is eligible.
Like chapter 7, chapter 13 bankruptcy is one of the options available to individuals. Businesses cannot use chapter 13. Unlike chapter 7, which focuses on liquidating assets, chapter 13 allows you to keep your property. You must agree to a long-term, structured plan for debt repayment.
You can negotiate this repayment plan with the courts, which means the total amount of debt you pay varies. Once the agreed-upon plan is complete, the debt is discharged, no matter how much of the total you repaid.
Chapter 13 is a longer process than chapter 7, but many people prefer it because it allows you to keep property. In the long-term, this is better for your credit. For some, the choice comes down to whether they meet the qualifications for one type or the other.
How Do I Begin the Bankruptcy Process?
To file for bankruptcy, you should consult with a lawyer. You can file without legal counsel, but the court system strongly recommends that you do. If you decide to file after consulting with a lawyer, your next step will be to attend a credit counseling session.
Debt counseling is required, and you must work with a government-approved group. They will go over your finances, suggest alternatives, and develop a budget. You will receive the counseling session for free if you cannot afford it.
If you choose to go ahead with bankruptcy after the counseling session, your lawyer will help you decide which type is best. They will then help you complete and file the appropriate forms with the U.S. Bankruptcy Court.
Should I File for Bankruptcy?
Filing for bankruptcy is a big decision, especially for individuals. It’s not a simple or consequence-free solution to debt, but it is the right choice for some people in certain situations. The good reasons to do it include getting a fresh start and a solution to the debt you can no longer manage. Consider certain factors before starting the bankruptcy process:
- Type of debt. Bankruptcy can help eliminate many personal loans, credit card debt, and medical bills, but it won’t eliminate child support, alimony, or most tax debt and student loans.
- Foreclosure. If you face bank foreclosure or repossession of your property, bankruptcy can delay it and give you time to make payments.
- Legal issues. Creditors can take legal action against you when you owe money. Bankruptcy can provide an automatic stay on collection actions.
- Qualifications. You may not qualify for bankruptcy protection. Know the requirements before making this decision.
Alternatives to Bankruptcy
Another factor to consider before filing for bankruptcy is any alternative solutions. Try negotiating with creditors first. Many creditors work with people to structure payments, provide more time, or even reduce their debt.
You can also try working with a credit counseling agency. Government-approved agencies will work with your creditors, so you don’t have to talk with them personally. A lawyer can also help you negotiate with creditors.
What Are the Consequences of Bankruptcy?
Bankruptcy is not a decision to take lightly. It is not an easy solution to debt with no strings attached. There are serious and long-lasting consequences. For instance, depending on the type you choose, you may lose your property to eliminate or pay off debts.
Even when you do not have to liquidate assets, bankruptcy negatively impacts your credit. A bankruptcy is recorded in your credit report and can follow you for up to ten years. Many creditors and lenders in the future will see this as a black mark against you and may deny your loans.
If you do choose to file for bankruptcy, it’s important to begin rebuilding your credit as soon as possible. One good way to do that is with a secured credit card. Most banks will issue this, even if you have a bankruptcy on your credit report.
Always consult with a lawyer before and during bankruptcy. Lawyers specializing in this area of the law can give you invaluable advice and get you through the process with as little damage as possible.