What kind of bankruptcy is right for you?

What does it mean to declare bankruptcy?

When a person can no longer pay their debts, they can declare bankruptcy. A debtor begins the process by filling a petition with the federal court system. Once filed, an automatic stay goes into effect. Creditors are temporarily unable to collect debt and wages can’t be garnished. Depending on the type of bankruptcy, the method to achieve debt relief changes.

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Chapter 7 bankruptcy

If you’re unable to make payments to clear your debts, you should file for Chapter 7 bankruptcy. This form of bankruptcy liquidates your assets to pay off your debts. In addition to filing for bankruptcy, you need to complete a means test application. This application is reserved for debtors making more income than an average person in their state. The means test compares a debtor’s income over the last six months to what they owe. If your income is sufficient to gradually pay off your debts, the judge will not allow you to discharge your debt. If the judge does allow you to discharge, an appointed trustee manages your liquidated assets, and either sells them or distributes them to creditors. Unsecured debt, or debt not backed by any collateral, is paid off first. When addressing unsecured debt, certain assets may be exempt from liquidation, such as the following:

• A portion of equity in a debtor’s home
• Motor vehicles
• Necessary clothing
• Items needed for a debtor’s job or profession
• Public benefits
• Damages awarded for personal injury

Before filing for Chapter 7 bankruptcy, review state laws with an attorney to determine what assets may be exempt from liquidation. After addressing the unsecured debt, secured debt or debt backed by collateral, is paid next. In the case of secured debt, if the debt isn’t paid off from liquidating your assets, the creditor retains the right to take the collateral. After court proceedings for Chapter 7 bankruptcy are finished, your debt will be discharged. However, a Chapter 7 bankruptcy also remains on your credit report for up to ten years and will severely impact your credit score.

Prior to filing for Chapter 7 bankruptcy, evaluate all other possible options to clear your debt and determine what assets may be exempt from liquidation. Don’t make this decision with haste, as you can lose many of your assets and foreclose on your home, if backed as collateral for secured debt.

Chapter 13 Bankruptcy

If you have sufficient income, Chapter 13 bankruptcy starts a payment plan, which consolidates debt that you must pay off in 3 to 5 years. You compile your outstanding debt, owned property, income, and monthly expenses to determine your repayment plan. You agree to a monthly payment to an appointed trustee, which consolidates your debts. The trustee gives the money to your creditor’s. To be eligible for a repayment plan, your secured debt and unsecured debt must be below certain limits. Your combined total secured and unsecured debts must be less than $2,750,000 when you file for bankruptcy relief.

After the court proceedings are complete, your assets (like your home) are protected, and you begin your repayment plan. If you miss a payment, the court may dismiss your case, which prevents you from discharging your debt, or it may be converted in a Chapter 7 bankruptcy case. A Chapter 13 bankruptcy will also negatively impact your credit, but less than a Chapter 7 case. It will stay on your credit report for two years after finishing repayment. Creditors look more favorably upon Chapter 13 filings since you’re making consistent payments.

In addition to Chapter 7 and Chapter 13 bankruptcy, you may also consider exploring Chapter 11 if you are trying to recover a business. Chapter 11 bankruptcy reorganizes a business’s obligations, debts, and assets. Additionally, if you do not qualify for Chapter 7 or 13 due to significant outstanding debt, you may consider filing for Chapter 11. However, in most cases, as an individual, you’ll likely be deciding between Chapter 7 and 13 bankruptcy.

Declaring bankruptcy is a difficult decision and should only be made when you don’t have any other options to clear your debt. Learn how to pay off your debt and budget your money with more tips.