Bankruptcy Law Handbook
Bankruptcy provides debt relief to individuals and businesses that have too much debt for them to handle. There are a number of different bankruptcy options that are available, including special bankruptcy filings for municipalities. However, the three most common types of bankruptcy filings are Chapter 7, 11 and 13, named after the respective chapters of the federal bankruptcy code.
Chapter 7 BankruptcyChapter 7 bankruptcy is a liquidation bankruptcy in which most of the debtor’s debt is wiped out, giving the debtor a fresh start. As part of the bankruptcy process, a bankruptcy trustee is appointed to sell off property that is not exempt in order to partially pay creditors. This helps to eliminate most unsecured debts that are not tied to specific property, including credit card debt and medical debt.
Some forms of debt cannot be wiped out with a Chapter 7 bankruptcy, including child support, spousal support, many student loans and tax debt. Some debts that were recently accumulated may also not be discharged.
Exempted PropertyThe bankruptcy trustee can only liquidate assets that are not exempt under state or federal law.
Common exempted property includes:
·Vehicles up to a certain value
·Household furnishings and goods that are reasonably necessary
·Tools of the debtor’s trade up to a certain value
·Reasonably necessary clothing
Some types of income are also exempt, including public benefits, retirement plans, and pension plans. Most states also provide a homestead exemption for the house where the debtor lives. If the debtor wants to hold onto his or her house, he or she may be able to do so if all of the equity in the home is exempt. The exemption amount varies by state. However, the debtor must still maintain timely payments so as not to get behind on the mortgage, otherwise, the lender can take legal action against him or her.
Not everyone is eligible to file for Chapter 7 Bankruptcy, including those who have received a discharge in bankruptcy within the last six to eight years, depending on the chapter under which they filed. Congress changed bankruptcy laws in 2005 to make it more difficult for debtors to file for Chapter 7 bankruptcy. The previous method allowed the bankruptcy judge to dismiss a chapter 7 bankruptcy case if he or she found the debtor had sufficient disposable income to enter into a Chapter 13 bankruptcy repayment plan. The new rules established criteria to determine whether a debtor is able to fund a Chapter 13 bankruptcy repayment plan, leaving the judge’s discretion and decision out of the consideration. To determine if a debtor is eligible for a Chapter 7 bankruptcy, the following process is implemented:
Eligibility for Chapter 7 Bankruptcy Filing
Determining whether the debtor’s income is below the median incomeThe first determination is determining whether the debtor’s income is less than the median income of a family of the same size in the same state as the debtor. If the debtor’s income is less than the median, he or she presumptively qualifies to file under this chapter. However, if the debtor has income higher than the median, the next question is whether the debtor has adequate income to fund a repayment plan while taking into consideration certain expenses and debt payments. This is accomplished by completing the means test.
Means TestThe means test helps to ensure that only individuals who cannot afford to pay off their debts are able to use Chapter 7 bankruptcy. The calculation determines whether a specific debtor has enough remaining income (their “disposable income”) after paying certain “allowed” monthly expenses to pay a portion of their unsecured debts. If their disposable income is over a certain amount, they will fail the means test and be ineligible to file for Chapter 7 bankruptcy. The higher a person’s disposable income, the less likely they will be eligible to file for Chapter 7 bankruptcy.
A person’s current monthly income is the average income over the last six months before the debtor filed for bankruptcy. Allowed expenses vary by each state and municipality but often include expenses for basic necessities, housing and transportation. Only debtors who have primarily consumer debts and not business debts take the means test.
Bankruptcy TrusteeThe court appoints a bankruptcy trustee who is responsible for ensuring that the creditors receive as much as possible of the unpaid debt that is owed to them. The trustee sells nonexempt property and provides the proceeds to the creditors. The trustee may also examine financial transactions during the year before filing the bankruptcy to determine if there are any strategies that can be used to free up assets and provide them to creditors.
Automatic StayOne of the most coveted aspects for debtors filing for Chapter 7 bankruptcy is the automatic stay. Once the bankruptcy is filed, the court issues an automatic stay that prevents creditors from trying to collect on the debt. This prevents wage garnishments, seizures of bank accounts and attempts to place liens on the debtor’s property.
If a debtor has secured debts, the secured creditor may ask the court to lift the automatic stay in order to repossess the property or foreclose on it. This can only occur if the debtor is behind on payments.
Creditors’ MeetingPart of the bankruptcy process includes a creditors’ meeting in which all of the creditors listed in the bankruptcy papers have an opportunity to attend. The bankruptcy trustee conducts the meeting and can ask the debtor questions about the bankruptcy and filings. This can help the trustee identify nonexempt property. The debtor may be required to surrender this property to the trustee.
The second most common type of bankruptcy filing is for Chapter 13. Chapter 13 bankruptcy is often filed by debtors who do not qualify for Chapter 7 bankruptcy due to being over the median income or not passing the means test. This type of bankruptcy requires the debtor to use his or her disposable income to repay a portion of the debt and enter into a repayment plan, usually between three and five years, depending on the debtor’s debts and income. One advantage to a Chapter 13 bankruptcy filing is that the debtor may be able to keep his or her property.
Chapter 13 Bankruptcy
Not all debtors qualify for Chapter 13 bankruptcy. Debtors must be able to show that they have sufficient income to meet their payment obligations under the bankruptcy repayment plan. If a debtor’s income is too low or irregular, the bankruptcy court may dismiss the petition. Additionally, the debtor cannot have debts over a certain threshold. At the time of publication, a debtor cannot have secured debts of more than $1,149,525 and unsecured debts of more than $383,175.
Eligibility for Chapter 13 Bankruptcy
The debtor’s repayment plan details the manner in which the debtor will repay debts, including how much repayments will be and the duration of the repayment plan. The repayment plan requires that certain debts be paid in full, which are designated as priority debts. These debts include child support, spousal support, employee wages and certain tax debts. The debtor is also responsible for completely paying the bankruptcy filing fees, bankruptcy attorney fees and the bankruptcy trustee’s commissions. Priority tax debts include those that were not originally due within the last three years prior to the bankruptcy filing.
The repayment plan must also include the debtor’s regular payments on secured debts, such as their mortgage payment and payment on a vehicle loan, and repayment for arrearages on these debts. The repayment plan must also indicate that any disposable income will be directed toward the repayment of unsecured debts. These debts do not have to be paid in full, and sometimes they do not have to be paid at all. These debts must be paid anywhere between 0 and 100 percent based on the debtor’s income, the duration of the repayment plan and the amount the creditors would have been entitled to under a Chapter 7 bankruptcy filing.
The duration of the repayment plan depends on the debtor’s income and the amount of debt. For individuals who have an average income of more than the median income, the debtor is required to propose a five-year repayment plan. If the debtor has an average income less than the median income, he or she can propose a three-year plan. However, sometimes a below-median debtor must extend the plan past this point in order to repay a sufficient amount of debt.
Once a bankruptcy plan is implemented, it can be modified by the bankruptcy trustee if the need arises. For example, if the debtor loses his or her job after entering into the plan, the trustee can modify it. In some cases, the bankruptcy court can discharge the debts due to hardship. Debtors may be able to have their Chapter 13 bankruptcy dismissed in order to convert it to a Chapter 7 bankruptcy.
Credit CounselingDebtors are required to attend sanctioned credit counseling. This agency must be approved by the United States Trustee’s Office.
Chapter 11 BankruptcyChapter 11 bankruptcy is primarily for reorganizing businesses that have large debt burdens. The goal of filing for Chapter 11 bankruptcy is to return the business to a profitable one. Corporations and small businesses alike use this filing status. Partnerships can also file under Chapter 11, but they must be able to survive and become profitable after the bankruptcy. The debtor proposes a plan to become profitable after the bankruptcy, often including reducing expenses and seeking new forms of revenue. Chapter 11 provides debtors with more time to file a proposed plan.
Often as part of the plan, the business renegotiates leases and other commercial contracts. The business may discharge some debts or partially repay them. Additionally, the reorganization plan classified creditors into different categories in relation to how their claims are handled. The top priority is given to federal and state tax agencies, wages owed to employees and amounts due to stockholders. Secured claims are put in a second class, and unsecured claims are put into a third class. The debtor is able to renegotiate terms with creditors who are incentivized to cooperate due to not wanting to be subject to a Chapter 7 filing which may result in no compensation for the debts owed. The creditors must vote on the reorganization plan and it must be approved by the bankruptcy court.
Chapter 11 bankruptcy petitions can get dismissed and be converted into Chapter 7 filings if the court determines that the plan for becoming profitable is not feasible.
Small businesses that file for Chapter 11 bankruptcy are often held to greater scrutiny than larger entities. Small businesses must provide the bankruptcy court with a variety of information and documentation including:
·A copy of the most recent balance sheet
·Cash flow statement
·A copy of the most recent federal income tax return
·A statement of operations
Additionally, small businesses must report on their profitability, project cash receipts and disbursements. While consumers can technically file for Chapter 11 bankruptcy, this is very rare with approximately only one out of every 1,000 consumers opting for this particular filing. When consumers opt for a Chapter 11 filing, it is often because they have significant debts that exceed the limits established under Chapter 7 and Chapter 13 bankruptcies and because they have significant earnings.
Legal AssistanceFiling for bankruptcy can be a complex matter with long-lasting consequences. Individuals and businesses that are contemplating this decision may wish to discuss their options with a bankruptcy lawyer. Due to the complexity and nuances of bankruptcy law, some lawyers specialize in this one area of law.
A bankruptcy lawyer can help analyze the source of debt and the debtor’s circumstances in order to recommend the best course of action. He or she can also discuss the risks and potential pitfalls of the various bankruptcy filings. Additionally, he can help provide information about exempted property and help the debtor assess the advantages and disadvantages of each option.
Know Your Rights!
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