What Is Bankruptcy?
Bankruptcy is a legal proceeding in which a person who can not pay his or her bills can get a fresh financial start. The right to file for bankruptcy is provided by federal law, and all bankruptcy cases are handled in federal court. The fresh start is achieved by eliminating all or a portion of existing debts and/or by stretching out the monthly payments. Filing bankruptcy immediately stops all of your creditors from seeking to collect debts from you, at least until your debts are sorted out according to the law.
Bankruptcies can generally be described as “liquidation” (Chapter 7) or “reorganization” (Chapter 13). Under a Chapter 7 bankruptcy, you ask the bankruptcy court to wipe out (discharge) the debts you owe. Under a Chapter 13 bankruptcy, you file a plan with the bankruptcy court proposing how you will repay your creditors. You must repay some debts in full; others may be repaid only partially or not at all, depending on what you can afford.
What Can Bankruptcy Do for Me?
Bankruptcy may make it possible for you to:
- Eliminate the legal obligation to pay most or all of your debts. This is called a “discharge” of debts. It is designed to give you a fresh financial start. This is by far the most important advantage. The most common type of debt that can be wiped out is unsecured credit card debt
- Stop foreclosure on your house or mobile home and allow you an opportunity to catch up on missed payments. (Bankruptcy does not, however, automatically eliminate mortgages and other liens on your property without payment.) As soon as your petition is filed, there is by law an automatic stay which prohibits the continuance of the foreclosure outside the bankruptcy court.
- Prevent repossession of a car or other property, or force the creditor to return property even after it has been repossessed.
- Stop wage garnishment, debt collection harassment, and similar creditor actions to collect a debt. The automatic stay prohibits most collection activity, including lawsuits
- Restore or prevent termination of utility service. If you’re behind on a utility bill and the company is threatening to disconnect your water, electric, gas, or telephone service, the automatic stay will prevent the disconnection for at least 20 days.
- Allow you to challenge the claims of’ creditors who have committed fraud or who are otherwise trying to collect more than you really owe.
- You may be able to exempt (that is, keep) many of your assets, although state laws vary widely in defining which assets you may keep.
- Federal law protects your right to file for bankruptcy. For example, you cannot be fired from your job solely because you filed for bankruptcy.
What Bankruptcy Can Not Do
Bankruptcy can not, however, cure every financial problem. Nor is it the right step for every individual. In bankruptcy, it is usually not possible to:
- Eliminate certain rights of “secured” creditors. A “secured” creditor has taken a mortgage of other lien on property as collateral for the loan. Common examples are car loans and home mortgages. You can force secured creditors to take payments over time in the bankruptcy process and bankruptcy can eliminate your obligation to pay any additional money if your property is taken. Nevertheless, you generally can not keep the collateral unless you continue to pay the debt.
- Discharge types of’ debts singled out by the bankruptcy law for special treatment, such as child support, alimony, certain other debts related to divorce, most student loans, court restitution orders, criminal fines, and some taxes. Child support and alimony obligations survive bankruptcy. Student loans can be discharged only if you can show that repaying the loan would cause you “undue hardship,” a very tough standard to meet. You must be able to show not only that you cannot afford to pay your loans now, but also that you have very little likelihood of being able to pay your loans in the future.
- Prevent a lawsuit seeking to establish paternity, modify child support or collect child support.
- Prevent a criminal proceedings.
- Prevent a tax audit by the IRS.
- Protect cosigners on your’ debts. When a relative or friend has co-signed a loan, and the consumer discharges the loan in bankruptcy, the cosigner may still have to repay all or part of the loan.
- Discharge debts that arise after bankruptcy has been filed.
What Different Types of Bankruptcy Cases Should I Consider?
There are four types of bankruptcy cases provided under the law:
- Chapter 7 is known as “straight” bankruptcy or -liquidation.” It requires a debtor to give up property which exceeds certain limits called “exemptions,” so the property can be sold to pay creditors.
- Chapter 11, known as “reorganization,” is used by businesses and a few individual debtors whose debts are very large.
- Chapter 12 is reserved for family farmers and fishermen.
- Chapter 13 is called “debt adjustment.” It requires a debtor to file a plan to pay debts (or parts of debts) from current income.
Most people filing bankruptcy will want to file under either chapter 7 or chapter 13. Either type of case may be filed individually or by a married couple filing jointly.
Advantages of Chapter 7 Bankruptcy
A typical Chapter 7 bankruptcy is completed in three to six months, and the person filing emerges debt-free except for a mortgage, car payments, and certain types of debts that survive bankruptcy, such as student loans, recent taxes, and unpaid child support.
Although you can lose property in Chapter 7 bankruptcy, most filers don’t. Bankruptcy lets you keep most necessities – if you have little to begin with, chances are good you’ll be able to keep all or most of your property (unless you pledged the item as collateral for a loan).
However, not everyone is eligible to use Chapter 7 bankruptcy. If your income is sufficient to fund a Chapter 13 repayment plan, after subtracting what you’ll spend on certain allowed expenses and monthly payments for child support, tax debts, secured debts (such as a mortgage or car loan), and a few other types of debts, you won’t be allowed to file for Chapter 7 bankruptcy.
Drawbacks of Chapter 13 Bankruptcy
Probably the main reason most people prefer Chapter 7 bankruptcy is that it doesn’t require you to repay any portion of your debts, as Chapter 13 bankruptcy does. And if you use Chapter 13 bankruptcy, you must complete the entire three- to five-year repayment plan in order to have your remaining debts discharged (unless the court lets you off the hook early, for hardship reasons).
If your income is above the median income for a family the size of your household in New Jersey, you may have to file a chapter 13 case. The median family income for a family four (4) in New Jersey after March 15, 2011 is $101,106 per year. For a household of one (1), the median income in New Jersey is $58,107 per year. For a household of two (2), the median income in New Jersey is $70,680 per year. For a household of three (3), the median income in New Jersey is $85,573 per year. A higher-income consumer must fill out “means test” forms requiring detailed information about income and expenses. If, under standards in the law, the consumer is found to have a certain amount left over that could be paid to unsecured creditors, the bankruptcy court may decide that the consumer can not file a chapter 7 case, unless there are special extenuating circumstances.
Chapter 7 (Straight Bankruptcy)
In a bankruptcy case under chapter 7, you file a petition asking the court to discharge your debts. The basic idea in a chapter 7 bankruptcy is to wipe out (discharge) your debts in exchange for your giving up property, except for “exempt” property which the law allows you to keep. In most cases, all of your property will be exempt. But property which is not exempt is sold, with the money distributed to creditors.
If you want to keep property like a home or a car and are behind on the payments on a mortgage or car loan, a chapter 7 case probably will not be the right choice for you. That is because chapter 7 bankruptcy does not eliminate the right of mortgage holders or car loan creditors to take your property to cover your debt.
Chapter 13 (Reorganization)
In a chapter 13 case you file a “plan” showing how you will pay off some of your past-due and current debts over three to live years. The most important thing about a chapter 13 case is that it will allow you to keep valuable property—especially your home and car—which might otherwise be lost, if you can make the payments which the bankruptcy law requires to be made to your creditors. In most cases, these payments will he at least as much as your regular monthly payments on your mortgage or car loan, with some extra payment to get caught up on the amount you have fallen behind.
You should consider filing a chapter 13 plan if you:
- Own your home and are in danger of losing it because of money problems;
- Are behind on debt payments, but can catch up if given some time;
- Have valuable property which is not exempt, but you can afford to pay creditors from your income over time.
- Have enough income in chapter 13 to pay for your necessities and to keep up with the required payments as they come due.
What Only Chapter 13 Bankruptcy Can Do that Chapter 7 Cannot Do
Stop a mortgage foreclosure. Filing for Chapter 13 bankruptcy will stop a foreclosure and force the lender to accept a plan where you make up the missed payments over time while staying current on your regular monthly payments.
Allow you to keep nonexempt property. You don’t have to give up any property in Chapter 13 because you use your income to fund your repayment plan.
“Cram down” secured debts that are worth more than the property that secures them. You can sometimes use Chapter 13 to reduce a debt to the replacement value of the property securing it, and then pay off that debt through your plan. For example, if you owe $15,000 on a car loan and the car is worth only $10,000, you can propose a plan that pays the creditor $10,000 and have the rest of the loan discharged. However, under the new bankruptcy law, you can’t cram down a car debt if you purchased the car during the 30-month period before you filed for bankruptcy. For other types of personal property, you can’t cram down a secured debt if you purchased the property within one year of filing for bankruptcy.
Under any chapter, once the bankruptcy case ends, most borrowers are discharged from (no longer liable for) most of the debts they incurred before filing their bankruptcy petition, called pre-petition debts. This means the court has excused the borrower from having to pay most debts. The borrower then starts over again with a clean financial slate except that the record of the bankruptcy will remain on the borrower’s credit record for up to 10 years.
It should be noted, however, that in a Chapter 7 case, the discharge does not wipe out a secured creditor’s lien, student loans or support payments to children: these are still due and payable, along with, perhaps, certain other, specifically non-discharged debts. In some cases a discharge may be denied altogether.
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