Wednesday, January 18th, 2017

What Is Bankruptcy?

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What is Bankruptcy?

There are two forms of Bankruptcy generally used for individuals:

Chapter 7 LIQUIDATION AND CHAPTER 13 WAGE EARNERS PLAN

Under a Chapter 7, the individual generally has more debts than income. The goal is to get a discharge of all dischargable debts. These are usually things like unpaid balances on utility bills, credit cards, and other debts unsecured by collateral. A debtor must first go through a means test to determine if they qualify for a Chapter 7. They are also required to go through Consumers Debt Counseling prior to being eligible to file a Chapter 7 Bankruptcy.

The result of the means test determines whether a debtor qualifies for a Chapter 7 filing or whether he or she must file a Chapter 13 instead.  It also determines whether the Chapter 7 filed will be an asset or no asset case.  If it is a no asset case, the Debtor generally qualifies for a discharge of all dischargable debts without having to make any payments to most Creditors.  If it is an asset case, Debtor may be required to make payments on all categories of debts but not 100%.

Upon filing either form of individual Bankruptcy, an Automatic Stay goes into effect.  The Stay is like a protective shield being placed around the Debtor.  No one is allowed to take legal action against the Debtor without the permission of the Bankruptcy Court.  Additionally a Trustee is appointed by the Court.  The role that the Trustee plays is that of an agent for Creditors.

A Chapter 13 is generally used for individuals who do not meet the criteria for filing a Chapter 7 Bankruptcy. A Chapter 13 is used when an individual has enough money coming in to pay his or her debts but not as they are currently structured. A common example is where an individual fell behind on their mortgage payments and have a substantial overage that they are unable to pay in one lump sum but do have the money to pay if the payments were spread over a longer period of time. A Chapter 13 plan can be for a period of time up to five years.  However, the Debtor is required to commit most of his or her disposable income to paying into the Chapter 13 plan.   Accordingly, the Court approves plans for the shortest period of time possible, up to five years.  If the level of debt compared to the level of income of the Debtor shows that the Debtor has the financial ability to pay the debts approved for re-payment by the Court, in two years, it will not approve a five year plan.

There are a lot of myths about Bankruptcies.  For example, many people believe that if they file for Bankruptcy, their credit is ruined for up to ten years or forever.  This is a misconception.  A  Bankruptcy can stay on your credit report for up to ten years.  However, many debtors are able to qualify for a mortgage to   purchase a primary residence, within two to three years after receiving a Chapter 7 Discharge.  It should be noted that when a mortgage is issued under these circumstances, it is generally at a higher interest rate than if the individual had good credit but the fact is that without going through the Bankruptcy process, these same individuals would not have qualified for a mortgage under any circumstances.

In closing, Bankruptcy is a tool.  Filing for Bankruptcy does not mean that an individual is a deadbeat or dishonorable.  There are many unforeseen circumstances that bring an individual to the point of having to file for some sort of Bankruptcy.  Over the years I have had clients who have worked and paid their bills on time for many years.  Suddenly they become ill and lose their jobs and health insurance or they get downsized out of a job and find that they are no longer able to meet their financial obligations, or they get divorced and without the additional income from their spouses they are no longer able to pay all of their bills.  Filing for Bankruptcy may be a way out of a financial disaster for these individuals.  It gives them the financial relief that they need to enable them to move forward towards a better future.

CHAPTER 11:  BUSINESS REORGANIZATION BANKRUPTCIES

This form of bankruptcy can only be used for businesses and single asset real estate holders.  Generally the Debtor continues to run its business during the term of the bankruptcy as a “Debtor in possession.”  The Chapter 11 Plan allows businesses to restructure their debt to be repaid over a five year period similar to an individual Chapter 13.  The difference is that in a Chapter 13, the Trustee collects all monies and distributes the payments through the Plan.  The Chapter 11 Debtor manages its accounts and pays creditors through the Plan, itself.