A Chapter 7 Bankruptcy Overview

Chapter 7 bankruptcy eliminates debts without requiring filers to repay creditors, often making it the preferred choice of bankruptcy filers. Chapter 7 is also the cheapest bankruptcy chapter to file and the quickest to complete, usually taking four months. This article explains what it means to file for Chapter 7 bankruptcy so you can determine whether it will work for you. Also, to help you better understand how Chapter 7 works, we've included examples with links to related bankruptcy forms.

What Is Chapter 7 Bankruptcy?

Chapter 7 bankruptcy provides debt relief to people struggling to get ahead financially. It quickly improves many lives by eliminating debts like unpaid credit card balances, medical bills, rent and utility payments, gym memberships and other fees, and payday loans.

One of the primary benefits of Chapter 7 is that filers don't repay creditors. The bankruptcy "discharge" order issued at the end of the case erases qualifying debts, and once discharged, creditors can no longer collect.

How Does Chapter 7 Work?

This bankruptcy type is also known as a "Chapter 7 liquidation." In a Chapter 7 liquidation, filers can keep necessary items, such as clothing, furnishing, a modest car, some home equity, and a qualifying retirement account.

In exchange for the discharge, the Chapter 7 trustee responsible for the case might sell or "liquidate" some property for the benefit of creditors. Typically, the property sold will be luxury items like expensive cars, recreational vehicles, boats, rental property, and timeshares.

Example. Carlos listed everything he owned on Schedule A/B and filed it as part of his Chapter 7 petition. His property included furniture, kitchenware and linens, a television, a computer, a cellphone, clothing, books, a vehicle, and other ordinary household items, all several years old and not particularly valuable. Carlos was able to keep all his belongings in bankruptcy.

Do I Qualify for Chapter 7 Bankruptcy?

You'll qualify if your earnings are low enough to stay within Chapter 7 income limits. The Chapter 7 means test determines whether you are eligible for a Chapter 7 liquidation.

You won't qualify if your means test results indicate you make enough money to repay some of your debts, and people who don't pass the means test often consider filing for Chapter 13. However, not qualifying for Chapter 7 doesn't guarantee Chapter 13 eligibility.

What Is the Chapter 7 Means Test?

The Chapter 7 means test consists of three forms that measure your debt repayment ability. Although there are three forms, you won't complete more than two. Also, not everyone is required to take the means test. If you're exempt, you'll complete one form.

The completed forms are part of the bankruptcy petition filed to start the Chapter 7 bankruptcy process.

Am I Exempt From the Chapter 7 Means Test?

Do you own a business, or have you owned one in the past? Current and previous business owners who owe more business debts than consumer debts when filing a personal Chapter 7 aren't required to take the means test. Typically, you incur business debts when pursuing profit-producing endeavors, but your tax debt might also qualify. Household rent, utility bills, food, and family entertainment expenses are examples of consumer debts.

Also, businesses that file for Chapter 7 bankruptcy don't take the means test. If you're a military member, you'll be exempt if your service falls within the guidelines listed on the exemption means test form.

Example. After Jerry's hot yoga business closed, he found a job selling pilates equipment and soon began earning over $100,000 annually. However, he still owed $75,000 for the hot yoga lease. He contacted a bankruptcy lawyer and learned he earned too much to pass the Chapter 7 means test. However, because he owed only $50,000 in credit card debt, his business debt exceeded his consumer debt, making him exempt from the means test and automatically qualified for Chapter 7.

How Do I Complete the Chapter 7 Means Test?

You'll start by completing the current monthly income form. You'll determine your family's gross income by adding together all income received for six months before filing for bankruptcy. After multiplying the total by two, you'll compare it to your state's median income for a family of the same size (you'll find current figures on the U.S. Trustee Program website). You'll automatically pass if your gross income doesn't exceed the state's median limits.

If your gross income is too high, you'll use the means test calculation form to subtract allowed expenses from your income. If you don't have enough to pay a reasonable amount to creditors after completing the calculations, you'll qualify for Chapter 7.

Example. Cheri completed the first part of the means test and found that she earned $15,000 more than her state's median income for a family of two (she had one daughter). She proceeded to the second portion of the means test. After deducting $7,500 for her car payment, $4,000 for tax arrearages, mortgage payments, church tithing, and more, Cheri passed the means test and qualified for Chapter 7.

What Disqualifies Someone From Filing Bankruptcy Chapter 7?

Here are a few additional reasons someone might not qualify for a debt discharge in Chapter 7 bankruptcy.

Previous bankruptcy filings matter. You won't qualify for a discharge if you received a previous bankruptcy discharge in the last six to eight years. The waiting period depends on whether you previously filed a Chapter 7 or 13 bankruptcy.

Residency matters. Where and when you file will depend on how long you've lived in the state. You'll need to be in the state for at least 180 days. The wait will be longer if you'd like to use the new state's exemption laws (more about how exemption laws protect property below).

Business organization type matters. Individuals and businesses can file Chapter 7. However, companies rarely file for Chapter 7 because a business, except a sole proprietor, isn't entitled to a debt discharge. Learn more about bankruptcy considerations for small businesses.

Your current budget matters. The means test looks at previous earnings and allowed expenses, not current earnings and actual expenses (even though the first form is called the "current monthly income" form). If the trustee finds you have money to pay creditors after examining your current budget and income in bankruptcy Schedules I and J, you might not qualify for Chapter 7. Learn about bankruptcy forms.

Example. Suzanne moved from an expensive highrise apartment to a studio to save $1,000 monthly and filed for Chapter 7 the following month. Although she passed the means test, the family law lawyer who filed her case wasn't familiar with some of the lesser-known bankruptcy rules. Specifically, she didn't know the trustee would compare the income reported in Schedule I to the current monthly expenses in Schedule J to determine whether Suzanne could repay creditors. Seeing that Suzanne's expenditures were $1,000 less than her monthly income, the trustee filed and won a motion to convert the case to Chapter 13.

Is Filing for Chapter 7 Bankruptcy Right for Me?

Before determining whether you're qualified for Chapter 7 bankruptcy, you'll want to ensure that Chapter 7 meets your needs. Specifically, ensure you can eliminate significant debt and verify that you can keep the property important to you.

Will Chapter 7 Bankruptcy Clear All Debt?

You can discharge many debts in bankruptcy, but not all. Most Chapter 7 filers can eliminate debt such as credit card balances, medical bills, personal loans, utility payments, past-due rent, and more. The most common "nondischargeable" debts you'll remain responsible for paying include child and spousal support, alimony, recently incurred tax debt, and student loans.

It's possible to discharge mortgage and car payments, but you'd need to return the house or car because collateral is "secured property." The lender can recover the property if the debt goes unpaid, even if you file for bankruptcy.

What Happens to Property in Chapter 7 Bankruptcy?

You'll start by listing everything you own in your bankruptcy forms. You must also list the exemption law giving you the right to keep it.

What Are Bankruptcy Exemptions?

Bankruptcy exemptions are laws that outline the particular property you can keep in bankruptcy. Your state decides what you can protect and if you can use the federal exemptions instead of state exemption statutes. If you have a choice, use the exemption system that protects the property most important to you. You can't use two systems.

In most cases, filers can keep some equity in most types of essential property, such as the following:

• your home and car
• clothing
• household furnishings
• a retirement account
• tools needed in your trade or business, and more.

Remember that bankruptcy exemptions vary by state. Find out more about protecting property with bankruptcy exemptions.

What Happens to Nonexempt Property?

Losing property in Chapter 7 happens regularly enough that you should carefully check exemptions. For instance, most filers won't be able to keep their boats, RVs, expensive jewelry, antiques, and other luxury items.

If you have nonexempt property you can't protect, you might have to surrender or pay to keep it (most trustees will sell things back to you at a discount). The trustee will sell it at auction, return the exemption amount to you, deduct the sales costs and the trustee's fee, and disperse the remaining amount to unsecured creditors.

However, if selling the property wouldn't generate much for creditors, the trustee will "abandon" it. You'd get to keep it, even though it's nonexempt.

Example. Joseph filed for Chapter 7 bankruptcy and exempted all his property on Schedule C except for his baseball card collection worth $5,000. The trustee offered to sell it back to Joseph for $4,000, a 20% discount. Joseph declined and turned over the baseball cards to the trustee.

Tip. Determining whether Chapter 7 makes sense can be done by subtracting the value of the property you'd lose from the debt you'd erase. If the amount of debt you'd wipe out significantly exceeds the amount of property you'd lose, filing for bankruptcy will likely be a sound financial decision.

Can I Keep My House and Car in Chapter 7?

Your first step will be checking whether you can protect all of your home or car's equity with a bankruptcy exemption. If you can't, you'll likely lose it in Chapter 7. The Chapter 7 bankruptcy trustee will sell the house or car, return the exemption amount to you, and distribute the remaining sales proceeds to creditors.

Suppose you can protect the equity with a homestead, motor vehicle, or wildcard exemption. If you financed your home or car and are still making payments, you must meet another requirement. You must also be current on the monthly payment.

If you aren't current, the lender can ask the court to lift the automatic stay and repossess or foreclose the property. If successful, you'd lose it in Chapter 7 bankruptcy. This result occurs because when you purchased the property, you agreed it would be collateral for a loan, making it a secured debt. If you're behind on your payments, the creditor can recover the property, even if you've filed for bankruptcy.

Your debt will also be secured if a creditor records a lien against your property, such as a tax or judgment lien. In some cases, such as with a judgment lien, you can eliminate the lien in Chapter 7 bankruptcy. But it isn't always possible.

Example. Lynn fell behind on her mortgage payment and filed for Chapter 7 bankruptcy. The trustee couldn't sell the home and recoup money for creditors because the house had no equity. However, the lender filed a motion requesting that the bankruptcy court lift the automatic stay. Because the lender's lien gave the lender the right to recover the home, the judge granted the motion, and Lynn lost the house.

When a Property Sale Will Reduce a Nondischargeable Debt Balance

No one wants to lose property in bankruptcy. But sometimes, the bankruptcy sales proceeds reduce the amount of a tax debt or domestic support obligation you'd pay after bankruptcy. Why? The trustee must pay these types of nondischargeable debts before paying anything to other creditors, which reduces the balance owed.

Of course, you'd likely do better selling the property for a higher price before bankruptcy and paying the debt yourself. However, because property sales before bankruptcy are carefully scrutinized, consult a bankruptcy lawyer before using this strategy.

What's the Difference Between Chapter 7 and Chapter 13 Bankruptcy?

Unlike Chapter 7 debtors, Chapter 13 filers make regular payments to creditors through the Chapter 13 trustee for up to five years. Although no one wants to repay creditors, the lengthy Chapter 13 repayment plan provides benefits unavailable in Chapter 7.

For instance, filers can use the Chapter 13 plan to catch up on overdue mortgages and auto loans and keep a house or car. Sometimes, filers can even reduce the amount owed on mortgages, auto loans, and other secured debts. Learn about cramdowns in Chapter 13.

Steps to Filing Chapter 7 Bankruptcy: The Chapter 7 Bankruptcy Process

The Chapter 7 process proceeds similarly in every state. Your Chapter 7 bankruptcy case starts when you file the bankruptcy petition, schedules, and other forms with your local bankruptcy court. The bankruptcy forms include disclosures about:

• debts and monthly living expenses
• income and earnings
• property you can keep or "exempt"
• nonexempt property the Chapter 7 trustee will sell for creditors, and
• gifts, sales, and other property transactions occurring up to ten years before filing.

You must also complete credit counseling with an agency approved by the U.S. Trustee Program. Click "Credit Counseling and Debtor Education" for listings by state.

How Much Filing Chapter 7 Bankruptcy Costs

The Chapter 7 filing fees cost $338 (as of October 2023), but if you can't afford it, you can ask the court for four installment payments or to waive the filing fee altogether. Hiring a bankruptcy lawyer to represent you is relatively reasonable compared to the debt savings. You can expect to pay $2,000 for a Chapter 7 case. However, bankruptcy costs vary depending on your location and case difficulty.

How Long Chapter 7 Bankruptcy Will Take

From a time perspective, you'll likely invest ten to twenty hours consulting with a Chapter 7 bankruptcy attorney, gathering financial papers and completing forms, taking the two bankruptcy courses, and attending a hearing.

You can expect to receive the debt discharge about four months after filing. In most instances, the bankruptcy court will close the case a few days later. However, sometimes a Chapter 7 will remain open longer. Learn more about when your Chapter 7 case will end.

What Can I Expect After Filing for Chapter 7 Bankruptcy?

A week or two after filing, you and your creditors will receive a notice with the date and time of the Chapter 7 hearing all filers must attend, the "creditors meeting" or "341 meeting of creditors." You'll also learn the name of the Chapter 7 trustee appointed to your case and essential Chapter 7 filing deadlines.

Five days before the meeting, you'll turn over your "521 documents." Plan to provide bank statements, paycheck stubs, tax returns, and other financial documents the trustee requires. Filers with a business ownership interest will also turn over profit and loss statements.

At the meeting, the Chapter 7 bankruptcy trustee will swear you in and ask questions about your bankruptcy case. In most Chapter 7 bankruptcies, this is the only hearing required. Most creditors' meetings last less than ten minutes. Learn what happens after the Chapter 7 bankruptcy 341 meeting of creditors.

Will Creditors Continue to Bother Me After Filing for Chapter 7 Bankruptcy?

Filing for Chapter 7 bankruptcy works well to stop collection efforts. The court issues an "automatic stay" order as soon as you file, prohibiting most creditors from collecting what you owe them.

At least temporarily, creditors cannot legally seize or "garnish" wages, empty or "levy" your bank account, go after your car, house, or other property, or cut off your utility service when you file for bankruptcy. Chapter 7 will even stop some lawsuits.

However, the automatic stay has limits. Find out why filers lose the automatic stay after repeatedly filing Chapter 7 bankruptcy cases.

Chapter 7 Bankruptcy and Your Credit

You can expect your credit score to drop after you file. However, it's often easier to rebuild credit after bankruptcy. You'll likely receive offers for credit cards soon after your case ends. With careful use and management, most people can finance a car a year later and buy a home two to four years after bankruptcy.

Other issues to prepare for include opening bank accounts and renting a place to live for a year or more. You'll want to secure these things before filing.