Introduction to Bankruptcy

Learn the basic rules about bankruptcy.

by:  , Attorney

If you are struggling to pay your bills or facing foreclosure or repossession of your property, filing for bankruptcy can eliminate most of your debts and give you a chance to catch up on missed mortgage or car loan payments. But whether bankruptcy is in your best interest depends on your income, assets, and the types of debt you wish to eliminate. Read on to learn more about what bankruptcy is and how it works.

What Is Bankruptcy?

Bankruptcy is a legal process that allows debtors to eliminate or reorganize their debts under bankruptcy court supervision. When you file for bankruptcy, the automatic stay protects you from creditors until you complete the process and receive your discharge (which wipes out your personal liability for most types of debt).

Automatic Stay

The moment you file for bankruptcy, an automatic stay goes into effect that prohibits most creditors from trying to collect their debts from you. The automatic stay stops almost all collection activities including lawsuits, wage garnishments, and creditor calls.

See what it can do in our article on The Automatic Stay in Bankruptcy.

Bankruptcy Discharge

If you successfully complete the bankruptcy process, you will receive a discharge of your debts. Your discharge wipes out your personal liability for and obligation to pay back any debts discharged through the bankruptcy. However, keep in mind that not all debts are dischargeable in bankruptcy.

How Does Bankruptcy Work?

The answer depends on whether you file for Chapter 7 or Chapter 13 bankruptcy. In general, Chapter 7 bankruptcy is designed to eliminate nonpriority unsecured debts (such as credit cards and medical bills) while Chapter 13 allows debtors to stop foreclosure and catch up on missed mortgage payments or pay off  nondischargeable  debts like alimony, child support, or recent tax obligations through a  repayment plan.

Chapter 7 Bankruptcy

As discussed, Chapter 7 bankruptcy is designed primarily to wipe out general unsecured debts. In most cases, it lasts approximately three months. Chapter 7 is commonly referred to as a liquidation bankruptcy because the appointed  bankruptcy trustee  has the power to sell your nonexempt assets to pay back your creditors.

Each state (and the federal system) has a set of  bankruptcy exemptions  that protects a certain amount of your property in Chapter 7 bankruptcy. But how much property you can keep depends on the exemption laws of your state. In order to qualify for Chapter 7 bankruptcy, your disposable income must be low enough to pass  the means test.

Chapter 13 Bankruptcy

Unlike in Chapter 7 bankruptcy, a Chapter 13 trustee does not sell your nonexempt assets. In exchange for keeping your assets, you propose a plan to pay back some or all of your debts through a repayment plan (which typically lasts three to five years). As a result, Chapter 13 is referred to as a reorganization bankruptcy.

If you are behind on your mortgage or car loan payments, you can use Chapter 13 bankruptcy to catch up on your arrears through your plan. Many debtors choose to file for Chapter 13 bankruptcy (even if they qualify for a Chapter 7) because it provides them a way to save their home or pay off their nondischargeable debts under the protection of the automatic stay.

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