When facing financial difficulties, it's essential to know what happens in bankruptcy before deciding to file a bankruptcy case. There's no doubt that if you're experiencing severe debt problems, filing for bankruptcy can be a powerful remedy. It stops most lawsuits, wage garnishments, and other collection activities. It also eliminates many types of debt, including credit card balances, medical bills, personal loans, and more.
But it doesn't stop all creditors, and it doesn't wipe out all obligations. For instance, you'll still have to pay your student loans unless you can prove a hardship and arrearages for child support, alimony, and most tax debts. Find out what happens in bankruptcy and how bankruptcy works, including:
Once you understand the basics, you'll likely want information targeted to your situation. Try our 10-question bankruptcy quiz. It can help identify bankruptcy issues best handled by a bankruptcy lawyer.
Bankruptcy allows people struggling with debt to wipe out certain obligations and get a fresh start. The two primary bankruptcy types filed—Chapter 7 and Chapter 13 bankruptcy—each offers different benefits and, in some cases, treat debt and property differently. You'll choose the chapter that's right for you depending on your income, property, and goals.
Here are things you can expect in both Chapters 7 and 13.
Once you file, the court issues an order called the automatic stay. The stay stops most creditor calls, wage garnishments, and lawsuits, but not all. For instance, creditors can still collect support payments, and criminal cases will continue.
The automatic stay will stop these actions as long as they're still pending. Once complete, bankruptcy won't help.
Bankruptcy is very good at erasing most nonpriority unsecured debts other than school loans. For instance, you can discharge unsecured credit card debt, medical bills, overdue utility payments, personal loans, gym contracts, and more.
The debt is unsecured if you didn't promise to give back the purchased property if you didn't pay the bill. By contrast, if you have a secured credit card, you'll have to return the purchased item. Jewelry, electronics, computers, furniture, and large appliances are often secured debts. Read the receipt or credit contract to find out.
If you can't afford a payment that you secured with collateral—such as a mortgage or car loan—you can wipe out the debt in bankruptcy. But you won't be able to keep the house, car, computer, or other item securing payment of the loan. When you voluntarily agree to secure debt with property, you must pay what you owe or give the property back (more below under "What Bankruptcy Can't Do").
Learn who can't file bankruptcy chapter 7 and must use Chapter 13 for bankruptcy relief.
Chapters 7 and 13 each offer unique solutions to debt problems. The two bankruptcy types work very differently. For instance, how quickly your debt will get wiped out will depend on the chapter you file:
Chapter 7 is primarily for low-income filers, and therefore, it won't help you keep property if you're behind on payments. But, if you have enough income to pay at least something to creditors, then you'll be able to take advantage of the additional benefits offered by Chapter 13.
Here are some of the things that Chapter 13 can do.
Stop a mortgage foreclosure. Filing for Chapter 13 bankruptcy will stop a foreclosure and force the lender to accept a plan that will allow you to make up the missed payments over time. You must demonstrate that you have enough income to pay overdue amounts and remain current on future payments to make this plan work. Learn more about your home and mortgage in Chapter 13 bankruptcy.
Allow you to keep property not protected by a bankruptcy exemption. No one gives up everything own in bankruptcy. You can save (exempt) items you'll need to work and live using bankruptcy exemptions. A Chapter 7 debtor gives up nonexempt property—the trustee liquidates unprotected property for creditors—but not a Chapter 13 filer. While it might seem as though you'd get to keep more assets, it's not the case. Chapter 13 filers pay the value of any nonexempt property to creditors through the repayment plan.
"Cramdown" secured debts when the property is worth less than the amount owed. Chapter 13 has a procedure that allows you to reduce an obligation to the replacement value of the property securing it. For example, if you owe $10,000 on a car loan and the car is worth only $6,000, you can propose a plan that pays the creditor $6,000 and discharge the rest of the loan. However, exceptions exist. For instance, you can't cram down a car debt if you purchased the car during the 30 months before bankruptcy. Also, filers can't use the cramdown provision to reduce a residential home mortgage. Learn more about lowering mortgages and loans using a "cramdown" in Chapter 13.
Bankruptcy doesn't cure all debt problems. Here's what it can't do for you.
Bankruptcy does not prevent a secured creditor from foreclosing or repossessing property you can't afford. A bankruptcy discharge eliminates debts, but it doesn't eliminate liens. A lien allows the lender to take property, sell it at auction, and apply the proceeds to a loan balance. The lien stays on the property until the debt gets paid. If you have a secured debt—a debt where the creditor has a lien on your property—bankruptcy can eliminate your obligation to pay the debt. However, it won't take the lien off the property—the creditor can still recover the collateral. For example, if you file for Chapter 7, you can wipe out a home mortgage. But the lender's lien will remain on the home. As long as the mortgage remains unpaid, the lender can exercise its lien rights to foreclose on the house once the automatic stay lifts. Learn about judgment liens and other liens in bankruptcy
Bankruptcy does not eliminate child support and alimony obligations. Child support and alimony obligations survive bankruptcy, so you'll continue to owe these debts in full, just as if you had never filed for bankruptcy. And if you use Chapter 13, you'll have to pay these debts in full through your plan. Learn about nondischargeable debts.
Bankruptcy does not eliminate student loans, except in limited circumstances. Student loans can be discharged in bankruptcy only if you can show that repaying the loan would cause you "undue hardship," which is a very tough standard to meet. You must prove that you can't afford to pay your loans currently and that there's very little likelihood you can do so in the future. Find out more about the undue hardship standard and student loan debt in bankruptcy.
Bankruptcy does not eliminate most tax debts. Eliminating tax debt in bankruptcy isn't easy, but it's sometimes possible for older unpaid tax debts. Learn what's needed to eliminate tax debts in bankruptcy.
Bankruptcy does not eliminate other nondischargeable debts. The following debts aren't dischargeable under either chapter:
If you file for Chapter 7, these debts will remain when your case is over. In Chapter 13, you'll pay these debts in full through your repayment plan.
Debt related to fraud might get eliminated. Bankruptcy won't discharge a fraud-related debt if a creditor files a lawsuit called an adversary proceeding and convinces the judge that the obligation should survive your bankruptcy. Such debts might result from lying on a credit application or passing off borrowed property as your own to use as collateral for a loan. Find out more about bankruptcy fraud.
Did you know Nolo has been making the law easy for over fifty years? It's true—and we want to make sure you find what you need. Below you'll find more articles explaining how bankruptcy works. And don't forget that our bankruptcy homepage is the best place to start if you have other questions!
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We wholeheartedly encourage research and learning, but online articles can't address all bankruptcy issues or the facts of your case. The best way to protect your assets in bankruptcy is by hiring a local bankruptcy lawyer.