How Does Bankruptcy Work? Understanding the Different Types and Means of Bankruptcy

Bankruptcy is a legal process that helps individuals and businesses who are unable to pay their debts to either eliminate or repay their debts under the protection of the court. It provides a fresh financial start to debtors by allowing them to either discharge their debts or create a repayment plan that is affordable for them. Bankruptcy can be a complex process, and understanding the different types and means of bankruptcy is essential to make informed decisions. In this blog post, we will explore how bankruptcy works and the various types and means of bankruptcy.

What is Bankruptcy?

Bankruptcy is a legal process that allows individuals and businesses to eliminate or repay their debts under the protection of the court. Bankruptcy can be initiated voluntarily by the debtor or involuntarily by creditors. Once a bankruptcy case is filed, an automatic stay is issued, which prohibits creditors from collecting any debts or taking any legal action against the debtor.

The goal of bankruptcy is to help debtors get a fresh financial start by eliminating or restructuring their debts. Once the bankruptcy case is completed, the debtor is relieved of most of their debts and can start rebuilding their financial life.

Types of Bankruptcy

There are several types of bankruptcy, and the type of bankruptcy that a debtor can file for depends on their individual circumstances. The most common types of bankruptcy are Chapter 7, Chapter 11, and Chapter 13.

Chapter 7 Bankruptcy

Chapter 7 bankruptcy, also known as liquidation bankruptcy, is the most common type of bankruptcy. It is designed for individuals and businesses with little or no assets and limited income. In Chapter 7 bankruptcy, a trustee is appointed to liquidate the debtor's non-exempt assets and distribute the proceeds to the creditors. Once the liquidation process is completed, the debtor is relieved of most of their unsecured debts, such as credit card debts, medical bills, and personal loans.

Chapter 11 Bankruptcy

Chapter 11 bankruptcy is designed for businesses and individuals with high debts and significant assets. It allows the debtor to reorganize their debts and operations while remaining in control of their business or personal affairs. Chapter 11 bankruptcy is a complex process and requires the assistance of an experienced bankruptcy attorney.

Chapter 13 Bankruptcy

Chapter 13 bankruptcy is designed for individuals with regular income who have a significant amount of secured debts, such as a mortgage or car loan. In Chapter 13 bankruptcy, the debtor creates a repayment plan that is affordable for them, and the plan is approved by the court. The repayment plan typically lasts for three to five years, and at the end of the plan, the debtor is relieved of most of their unsecured debts.

Means of Bankruptcy

There are several means of bankruptcy, and the means test is used to determine the debtor's eligibility for each type of bankruptcy.

Means Test for Chapter 7 Bankruptcy

The means test is used to determine the debtor's eligibility for Chapter 7 bankruptcy. It compares the debtor's income to the median income in their state. If the debtor's income is less than the median income, they are eligible for Chapter 7 bankruptcy. If the debtor's income is higher than the median income, they may still be eligible for Chapter 7 bankruptcy if they can pass the means test, which takes into account their disposable income and expenses.

Means Test for Chapter 13 Bankruptcy

The means test is also used to determine the debtor's eligibility for Chapter 13 bankruptcy. The means test calculates the debtor's disposable income, which is the amount of money they have left after deducting their necessary expenses from their income. If the debtor's disposable income is above a certain threshold, they may be required to file for Chapter 13 bankruptcy instead of Chapter 7 bankruptcy.

Bankruptcy exemptions

Bankruptcy exemptions are the assets that the debtor can protect from being liquidated in bankruptcy. Bankruptcy exemptions vary by state, but they typically include a homestead exemption, which protects the debtor's primary residence, a personal property exemption, which protects the debtor's personal belongings, and a wildcard exemption, which can be used to protect any asset.

Bankruptcy Process

The bankruptcy process can be complex and time-consuming, and it typically involves the following steps:

1. Pre-filing Credit Counseling: Before filing for bankruptcy, the debtor is required to complete a credit counselling course from an approved credit counselling agency.
2. Filing for Bankruptcy: The debtor files a bankruptcy petition with the bankruptcy court in their district.
3. Automatic Stay: Once the bankruptcy case is filed, an automatic stay is issued, which prohibits creditors from collecting any debts or taking any legal action against the debtor.
4. Meeting of Creditors: The debtor is required to attend a meeting of creditors, where they will be questioned by the trustee and creditors about their finances.
5. Bankruptcy Discharge: Once the bankruptcy case is completed, the debtor is relieved of most of their debts, and they can start rebuilding their financial life.

Conclusion

Bankruptcy can be a difficult decision to make, but it can provide a fresh financial start for individuals and businesses who are struggling with debt. Understanding the different types and means of bankruptcy is essential to make informed decisions and choosing the right bankruptcy option for your individual circumstances. If you are considering filing for bankruptcy, it is recommended that you seek the assistance of an experienced bankruptcy attorney who can guide you through the process and help you achieve the best possible outcome.