If you are facing overwhelming debt, filing a bankruptcy case may be the best thing you can do to permanently solve the situation. Once you have decided that filing a bankruptcy case is the right option for you (and you should reach this conclusion only after personally consulting with an experienced and reputable debt relief lawyer), the next question becomes what form of debt relief is best for you. For the vast majority of individual consumers, this usually means choosing between Chapter 7 and Chapter 13. Let’s look at Chapter 7 first.
Chapter 7 – “Straight” Bankruptcy
In a Chapter 7 case, your goal is to eliminate as much debt as possible to get a “fresh start”. When you file a case under Chapter 7, you must fully and completely disclose to the court all of your assets, liabilities, income, expenses and your entire true financial condition. Your assets are then classified as either exempt or non-exempt. The law of exemptions is a topic unto itself and usually depends on the law of your state and, to an extent, federal bankruptcy law. However, once this classification is made any non-exempt assets are then liquidated, i.e., sold, to raise as much money as possible to pay your creditors. You keep the exempt assets. In most individual consumer cases all, or most all, assets will be considered exempt.
If there are any non-exempt assets, the next step is for a trustee to collect and liquidate these assets. This process is overseen by the bankruptcy court. If there are not any non-exempt assets, then the bankruptcy court will, after a few months, order a discharge of all debts which can be discharged under the bankruptcy law. In order to obtain a discharge, you must timely complete a mandatory financial management course. This is usually done online or over the telephone. Certain types of debts such as some taxes, student loans, and child support and alimony debts are not discharged and you must continue paying those debts. For all debts that are discharged, you no longer have any legal obligation to pay and you cannot be subjected to any debt collection efforts.
Chapter 7 is usually chosen for those who are not delinquent on mortgage or car payments and who have mostly general unsecured debts like credit cards and medical bills. By being and staying current on these types of debts, you are able to keep your house and car. However, falling behind on these debts after filing a Chapter 7 case can be a really serious problem for you.
Any individual filing a Chapter 7 case is subject to the “means” test. This test supposedly determines if you really have the ability to pay your debts. If your household income is above a certain level based on the size of your household, it may be difficult or impossible for you to file a Chapter 7 case. Also, if you have previously filed a Chapter 7 case within a certain period of time and previously obtained a Chapter 7 discharge, you may be prevented from filing a Chapter 7 case.
Chapter 13 – Debt Consolidation
In a Chapter 13 case, your goal is to “consolidate” your debts down to an amount that you can reasonably afford based on your household income and your reasonable and necessary household living expenses. In Chapter 13, it is usually easier to keep all of your property because there is less emphasis on whether your assets are exempt or not. You must fully and completely disclose all of your assets, liabilities, income, expenses and your entire true financial condition. You will come up with a Chapter 13 plan to be filed with and approved by the bankruptcy court. This plan will detail how you are going to pay your debts and does not require that all debts be paid in full. The plan will usually last for 60 months (although it can be as short as 36 months). When you have completed your plan, you will get a discharge of any remaining balances on most all of your debts. In essence, Chapter 13 requires you to make your best effort over a set period of time and, when you have done that, you get a discharge. Just as in Chapter 7, there are certain types of debts that cannot be discharged. Common examples are student loans , child support, and alimony debts. You also must complete a financial management course and you are subject to “means” testing. However, the “means” test in Chapter 13 usually only affects the length of your plan. For all debts discharged in Chapter 13, you no longer have any legal liability to pay and you cannot be pursued for collection on any of these discharged debts.
Chapter 13 is usually chosen in situations where you are delinquent on mortgage payments and/or car payments. Chapter 13 allows you to keep your house and car (even though you aren’t current on the payments) while you pay these debts under your court approved plan. This is not easily done in a Chapter 7 case. Also, Chapter 13 may be the best option if you have significant amounts of non-dischargeable debts like past due alimony or child support or student loans. Also, Chapter 13 may be your only option if you have previously gotten a discharge of your debts under Chapter 7 and have run into problems again or you are prevented from filing a Chapter 7 case because of the “means” test.
Finally, it is possible to start off in one chapter and then convert your case to the other chapter. We see this mostly in situations where a client has started off in Chapter 13 but, due usually to unforeseeable changes in circumstances, cannot continue paying their plan payments. In these circumstances, the best option may be to simply convert the Chapter 13 case to a Chapter 7 case to get as much debt relief as possible under the circumstances. In some instances, it may be a smart strategy to intentionally start in one chapter and plan to convert to the other chapter at a later time.
Your Next Move
The bottom line is that, if you are faced with overwhelming debt that you have no ability to pay or to timely pay, it’s a good idea to consult with a reputable and experienced debt relief attorney in your area. He or she will be in the best position to give you specific advice about your current situation. If you decide that filing a bankruptcy case is right for you, choosing the most appropriate chapter is extremely important.