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J.K. Lasser's The New Bankruptcy Law and You

Bankruptcy: An Action Plan for Renewal

Take control of your finances.

Are you overwhelmed by debt? Before you consider filing for personal bankruptcy, it’s essential to get the facts: bankruptcy can give you a clean slate, but it affects your credit rating for years to come. Make the right decision by getting to know:

The basics of Chapter 7 and 13 bankruptcies, and who qualifies for each
The documentation and financial info you need to file for bankruptcy
An overview of the entire personal bankruptcy filing process, start to finish

Bankruptcy Fundamentals

Bankruptcy is a legal process that gives debtors relief from debts they cannot pay and, in some cases, compensates creditors for the money that debtors owe them. This guide covers the personal bankruptcy process, which applies to all consumer debtors—individuals or married couples—who seek bankruptcy protection.

The “New” Bankruptcy Laws

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCA) overhauled the U.S. Bankruptcy Code (called “the Code” for short). The new bankruptcy process, which this guide covers in detail, requires you to:

Provide more detailed financial and background information than the previous bankruptcy process
Take a means test to determine which type of bankruptcy you’re qualified to file (see Should You File Chapter 7 or 13?)

How Do You File for Bankruptcy?

To file for bankruptcy protection, you must complete what’s known as a bankruptcy petition—a collection of forms that require you to provide detailed information about your debts, assets, income, and expenses. You file the petition, on your own or with the assistance of a bankruptcy lawyer, at the federal bankruptcy court that oversees all of the bankruptcy cases in your federal bankruptcy district. There are 94 federal bankruptcy districts nationwide, and at least one in every state. You can find a list of the districts and bankruptcy courts in your state at www.uscourts.gov/courtlinks. The timeframe and order of events that follow the filing of the petition depend on the type of bankruptcy you file.

The Main Types of Personal Bankruptcies

There are two main types of personal bankruptcy, named for the sections of the Code in which they’re discussed: Chapter 7 and Chapter 13. Which chapter you should file depends on various factors, including your income, your amount of debt, and whether you’ve filed for bankruptcy in the past. Perhaps the most important factor is whether the debt you owe is mostly secured debt or unsecured debt.

Secured debt: Debt backed by a major asset, such as a home, land, a car, or other valuable property. Auto loans and mortgages are the most common types of secured debt.
Unsecured debt: Debt not backed by a major asset, such as a home or car. Unsecured debt includes personal loans from family members or friends, tax liens, school loans, child or spousal support payments, and most types of credit card bills.

Chapter 7 Bankruptcy

Debtors with mostly unsecured debt usually file for Chapter 7 bankruptcy, also called liquidation bankruptcy. In a Chapter 7 bankruptcy, the court seizes and liquidates (sells) certain assets that you own in order to pay back creditors. When you file, the court issues an automatic stay and, in most cases, a discharge of debts.

Automatic stay: Prohibits creditors from contacting you for the duration of the bankruptcy case
Discharge: Wipes out certain debts entirely (not all debts qualify), so you never have to pay back these debts or deal with the associated creditors

The majority of Chapter 7 bankruptcies are no-asset cases, in which the debtor lacks the cash (or assets that can be sold for cash) necessary to pay back the creditors. In no-asset cases, the creditors’ only recourse is to write off the debt as a tax deduction.

The entire Chapter 7 process typically takes 3–6 months to complete and costs $299 to file, not including legal fees. For a detailed breakdown of the entire Chapter 7 bankruptcy process, see How to File for Chapter 7 Bankruptcy.

Chapter 13 Bankruptcy

Debtors who can’t afford the monthly payments on secured debts but still want to keep the debt’s underlying asset (such as a home) usually file Chapter 13. Also known as payment plan bankruptcy, Chapter 13 requires you to repay certain creditors over a 3- to 5-year period according to a court-ordered plan. The court’s payment plan helps you catch up on secured debt payments by:

Reducing or discharging your unsecured debts
Setting up a gradual, affordable monthly payment schedule for your secured debts

In a Chapter 13 bankruptcy, your secured-debt creditors eventually get paid (albeit more slowly), and your unsecured-debt creditors get to take a tax deduction each year on the discharged portion of your unsecured debt.

It takes roughly 2–3 months to process a Chapter 13 bankruptcy petition and to establish an approved payment plan. You must begin making payments within 30 days after the bankruptcy court approves the plan—the plan itself lasts 3–5 years from the date of official court approval. It costs $274 to file a Chapter 13 bankruptcy, not including legal fees. For a detailed breakdown of the Chapter 13 bankruptcy process, see How to File for Chapter 13 Bankruptcy.

The Pros And Cons of Filing for Bankruptcy

Most people file for bankruptcy only as a last resort—if they absolutely can’t pay their bills for an extended period of time and have no other recourse, such as a home-equity loan, a personal loan, or a debt consolidation program. Consider the following pros and cons in deciding whether bankruptcy suits you. Unless stated otherwise, each pro and con applies both to Chapter 7 and Chapter 13 bankruptcies.

Pros of Filing for Bankruptcy

Eliminates debt: Discharge relieves you from certain types of debts permanently and irrevocably.
Stops contact with creditors: Creditors can no longer contact you to seek collection of your debts.
Prevents wage garnishments: Once you file for bankruptcy, your wages and savings cannot be garnished, or redirected to creditors or any other third-parties, without your consent.
Prevents foreclosure and repossession: Any assets for which you have secured loans—such as homes, cars, or boats—cannot be repossessed or foreclosed on by the lender during bankruptcy.
Prevents evictions: In most cases, landlords can’t evict you while you’re going through bankruptcy.
Secures your driver's license: During bankruptcy, your license cannot be suspended for unpaid fines or legal judgments related to traffic or moving violations.
Secures your job: It’s illegal for employers to fire you because you filed for bankruptcy. They can still fire you for other reasons, such as the quality of your work.
Protects certain assets: When you file for bankruptcy, certain types of assets are protected and can’t be seized and liquidated to pay your creditors. The types of assets protected by filing for bankruptcy vary by state (see Exempt Property in Bankruptcies).
Prevents lawsuits: Filing for bankruptcy puts a temporary stop to nearly every type of civil lawsuit that could be, or has been, filed against you.
Cancels judgments: Damages you’ve been ordered to pay as a result of a civil lawsuit may be discharged.

Cons of Filing for Bankruptcy

Asset forfeiture: Not all your assets are protected when you file for bankruptcy. You may be forced to surrender some assets to the court to pay off creditors.
Expense: Court costs and legal fees can easily add up to thousands of dollars, which most people filing for bankruptcy don’t have. Fee waivers are available for certain court costs, but only for filers whose annual income is less than 150% of the current poverty level.
Public disclosure: Bankruptcy filings become a matter of public record that anyone can access.
Credit-related ramifications: A bankruptcy filing can lower your credit score by 100 points or more. Bankruptcies remain listed on your credit report for 10 years and can make it difficult to obtain mortgages and other loans, and even more difficult to obtain loans at favorable interest rates.
Court involvement: If you file Chapter 13, you must comply with a court-enforced payment plan (budget) for 3–5 years. During this period, the court remains closely involved in your personal and business affairs.
Court attendance: You must attend at least one court hearing after filing, which usually requires missing a half-day or more of work.
Mandatory credit counseling: You’re required to pay for and attend at least two credit counseling sessions in order to qualify for bankruptcy protection (see Mandatory Credit Counseling).
Time: The bankruptcy process takes at least a few months to complete and can be a time-consuming process. Often requires taking a couple of days off from work.

Acknowledgments & Disclaimer

Next:
Gathering Your Financial Info

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