If you're one of the millions struggling financially due to COVID-19 or another unexpected event, you're not alone, and filing for bankruptcy can help. But first, you need answers to a few important bankruptcy questions:
The good news is that if you find filing for bankruptcy is the answer, you can expect the weight to lift from your shoulders. But the best part? Bankruptcy filers say that getting the bankruptcy discharge, the order that wipes out your debt when filing for bankruptcy feels even better.
We explain the differences between the three types of bankruptcy, Chapters 7, 13, and 11, and how each bankruptcy type works below.
If you find examples helpful, keep your eye out for Quinn, Aurora, and Declan. We follow each of them as they go through the process of filing for bankruptcy.
No one is immune from debt or life's challenges, and sometimes people need help getting back on their feet. The bankruptcy system exists for that very reason. It helps by unwinding the contract between you and your creditor. Without a contract, you have no obligation to pay the debt, and you get a fresh financial start.
As powerful as bankruptcy is, filing for bankruptcy won't solve every financial problem, so it's crucial to learn what bankruptcy can and cannot do.
Everyone needs things to maintain a home and employment. You'd hardly get a fresh start if you lost all your belongings when filing for bankruptcy. So don't worry about losing everything you own.
Each state decides the type of property a filer will need after filing for bankruptcy. Bankruptcy exemptions, the state laws that tell you what you can keep, vary widely. Even so, you'll likely be able to protect some equity in a home and car, household furnishings, a retirement account, and more.
But you might also learn that some of your assets aren't covered or are "nonexempt," especially if you own luxury property like artwork, collections, boats, stocks and bonds, and rental property. If you have nonexempt property, check for a "wildcard" exemption you can use to protect the nonexempt property of your choice.
It doesn't matter which of the three types of bankruptcy you file. The exemptions are the same regardless of whether you file for Chapter 7 or Chapter 13 (the two types most people file) or Chapter 11 (the type of bankruptcy businesses and individuals who make too much for Chapter 13 bankruptcy file).
However, the type of bankruptcy you choose will determine what will happen to your nonexempt property.
The system ensures that creditors receive the same amount in both types of bankruptcy chapters.
If you want to take a peek at what you'd be able to protect, check out bankruptcy exemption laws by state.
You already know that filing for bankruptcy works by wiping out debt, such as credit card balances. And you'll be able to erase overdue utility payments, medical bills, and personal loans. You can even get rid of a mortgage or car payment if you're willing to give up the house or car you put up as collateral securing the debt.
But did you know you can't discharge all debts? For instance, child support will never go away in bankruptcy, and student loans are difficult to wipe out. You'd have to win a separate lawsuit.
These types of debts are known as "nondischargeable debts." Before deciding to file, be sure that bankruptcy will "discharge" or get rid of enough bills to make it worth your while.
Not all bankruptcy chapters work the same way, which is good because when your financial situation is unique (as all are), having options helps. Your next step will be determining which type of bankruptcy will be best for you: a liquidation or reorganization bankruptcy.
Chapter 7 bankruptcy is most filers' first choice. It wipes out qualifying debt without creditor repayment. It's also quick, taking about four months to complete. And if you're an individual, you don't lose everything—you can keep the property you need to work and live.
But it comes with downsides. Because it's quick and doesn't involve creditor repayment, Chapter 7 won't help you stop a foreclosure or repossession permanently. Also, it's called "liquidation bankruptcy" because the Chapter 7 trustee appointed to handle the case sells the debtor's property for the benefit of creditors.
In an individual bankruptcy, the trustee sells the filer's nonexempt luxury property, so it's common to lose things like sporting equipment, gun collections, boats, recreational vehicles, and rental property. In a bankruptcy brought by a business, the trustee sells all of the business assets.
Individuals and businesses with extra income to pay debts but not enough to cover current expenses use "reorganization" bankruptcy chapters. The debtor, creditors, and the court agree on a plan that redistributes the debtor's income among the creditors. Here's who typically uses each of these types of bankruptcy:
This type of bankruptcy requires a filer to pay creditors through a three- to five-year repayment plan. While the repayment requirement is often too costly for many, it has benefits.
For instance, if a creditor is playing hardball, a filer can avoid collection efforts and force the creditor into a Chapter 13 payment plan. However, one of the biggest benefits of Chapter 13 is that a debtor can avoid foreclosure and keep a house that would be lost otherwise.
Because debts aren't treated equally in Chapter 13, a debtor can often channel the monthly payment toward the things the debtor wants to accomplish, such as catching up on a house or car payment and paying off nondischargeable tax balances and support obligations over time. Creditors holding debts that filers don't care much about—credit card, medical, personal loan balances, and the like—are left dividing what remains, which usually isn't much.
Other benefits exist, too. For instance, if a home is significantly underwater, a filer can strip off a junior residential mortgage. It's also possible to reduce the amount owed on personal property or nonresidential real estate if the debtor can pay the reduced amount in full through the plan (known as a "cramdown").
Overall, drafting a Chapter 13 plan is an involved process, and retaining a bankruptcy lawyer is highly recommended. Other reorganization plans are even more complex. But because they involve extensive negotiations, even more options are available.
You don't need a particular amount of debt to file for bankruptcy, but there are lots of other eligibility rules—these are the most common.
Debt discharges aren't unlimited. If you've filed for bankruptcy before, you might not qualify immediately. The waiting period will depend on the chapter you filed previously and the chapter you intend to file now.
For instance, suppose you filed for Chapter 7 two years ago. The waiting period between Chapter 7 and 13 filings is four years. It's eight years if you want to file another Chapter 7. So you'll need to wait for another two to six years.
Almost everyone must pass the "means test." There are three ways to meet this requirement.
First is the easy way. Check whether you're exempt. If you are, you can skip the means test altogether. Filers who have more business debt than personal debt are exempt. So are certain military members and veterans.
Next is the reasonably straightforward method. You'll compare your gross household income to your state's median income for a family of the same size. Add the gross income earned by you and your family members over the last six months and multiply by two. Then compare it to the figures posted on the U.S. Trustee website (select "Means Testing Information"). If your income is less than or the same as the state's median income for your family size, you'll pass.
Finally, the complicated approach. If your gross income is too high, you can take the second portion of the means test. You'll use the means test forms to deduct allowed expenses (beware, this sounds easier than it is). You'll be eligible for Chapter 7 if you don't have enough income to pay into a Chapter 13 plan.
Fewer people file for Chapter 13 than Chapter 7 primarily because the benefits offered by Chapter 13 bankruptcy come at a hefty price—and many can't afford it. The first set of requirements is relatively easy to meet:
The tricky part is the required payment. While it's possible to "pay pennies on the dollar," for most, Chapter 13 bankruptcy gets expensive fast because, in addition to your monthly living expenses, you must make enough to cover the larger of the following over five years:
People who qualify for Chapter 7 bankruptcy but elect to file for Chapter 13 bankruptcy don't need to follow these rules. They pay according to their budget over three years—but they can extend the period to five years if it's more manageable. Find out more about calculating a Chapter 13 bankruptcy payment.
Much like Chapter 13 bankruptcy, filers must propose an acceptable plan. But the process is significantly different and even more complicated. Find out more about individual and business Chapter 11 bankruptcies.
Retaining a professional to help you with your case is well worth the cost. Not only will you have peace of mind that you've filed a correctly prepared case, but you'll also receive guidance throughout the process. Most importantly, a bankruptcy lawyer will ensure that you don't lose important property unexpectedly and that you don't find yourself facing bankruptcy fraud charges.
Attorneys' fees for a Chapter 7 case can range anywhere from $1,000 for a simple matter to $3,500 or more for a more complicated case depending on where you live. Most filers can expect to pay somewhere between $1,500 and $2,000. Keep in mind that a Chapter 7 bankruptcy lawyer will require you to pay the fees in full before filing your matter. Why? Because the bankruptcy case would wipe out any unpaid amount.
By contrast, Chapter 13 lawyers' fees will be significantly more, but unlike Chapter 7, many will accept a downpayment as low as $100. You'll likely be able to pay the remainder through the repayment plan. Learn about your options if you can't afford a bankruptcy lawyer.
While most people hire a bankruptcy lawyer to prepare their bankruptcy paperwork and guide them through the process, it's possible to do your bankruptcy yourself if it's simple enough. You can get a feel for your case's complexity using our bankruptcy quiz—we'll alert you to issues you might want to run by a bankruptcy lawyer.
The court will issue an automatic stay that will prevent most of your creditors from continuing to collect from you. Even court cases and trials related to debt collection will have to stop. Keep in mind that bankruptcy won't stop all lawsuits—for instance, you'll still have to make support payments, and criminal actions can go forward, too.
Don't assume that what you say in your paperwork will be accepted at face value. The court will assign a professional called the bankruptcy trustee to check out your filing thoroughly.
When reviewing your paperwork, the trustee will compare the figures in the petition and schedules to your tax returns, bank statements, paycheck stubs, profit and loss statements, and the other financial documents you'll be required to provide. The trustee will also look for signs of bankruptcy fraud.
If the trustee spots an issue, the trustee might do any number of things. For instance, it isn't unusual for a trustee to ask for additional documents or photos or inspect an item of property, storage space, or real estate. A trustee will usually attempt to work out a problem informally before or at the 341 meeting of creditors. If you can't resolve it, the trustee will file a motion or adversary proceeding (although these actions are relatively unusual).
Every filer must attend at least one bankruptcy hearing—the 341 meeting of creditors. It isn't a court appearance, but you'll still need to take it seriously. The trustee—not the judge—holds the meeting in a conference room at the courthouse or elsewhere, and about ten filers are assigned to appear during the same hour.
When it starts, the trustee will take attendance and provide initial instructions. Here's what you'll do next:
A trustee who is satisfied with your responses will conclude the meeting. Otherwise, the trustee will continue the case until another day—something that often happens when one of the following applies:
In most cases, the debtor's appearance at the creditors' meeting takes less than ten minutes.
At this point, Chapter 7 filers will be in the final stretch, with one more responsibility to complete—filing a financial management course certificate. By contrast, Chapter 13 filers will just be getting started. They'll need to do the following:
After completing all steps, the debtor will receive a debt discharge wiping out qualifying debt.
To make the most of your discharge and ensure life after bankruptcy goes smoothly, you'll want to do a bit of planning.
Some areas of your life will be more challenging to negotiate for a year or two after filing for bankruptcy, specifically, renting or leasing housing, financing a car, and establishing a bank account. So it's essential to have these things in place before filing. And don't plan on making changes soon.
Tip. If you'll be letting go of a house and you're worried about moving your children's schools, rent something in the area, if possible—before filing, of course.
You can start rebuilding credit soon after completing a bankruptcy. Most filers are surprised by how quickly they receive credit offers. But it makes sense. Creditors know you won't be able to file again for quite a few years, so if you're employed, you'll be a reasonable credit risk. Take the opportunity to find out about credit-building strategies.
Many filers are relieved to learn that they don't need to push aside a dream of buying a home. You could be eligible two to four years after your bankruptcy case. Find out more about post-bankruptcy homebuying requirements so you can plan accordingly.
After filing for bankruptcy, it's common to want to secure your future. The first step is following a sound financial plan, of course. But you'll also want to safeguard yourself against unexpected financial hardships. Putting money aside in a savings account is always a good idea. But you might want to contribute to a 401k plan or another ERISA-qualified retirement account. Not only would it be exempt if you needed to file for bankruptcy again (it happens), but you could draw on it in an emergency. Obtaining life insurance and making a will are other ways to provide for your family, too.
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.