Definitions & Explanations
There are two basic types of bankruptcy cases: liquidation and reorganization. A Chapter 7 deals with liquidation proceedings whereas Chapters 11 and 13 deal with reorganizations.
A liquidation is the sale of your property that cannot be exempted (protected). If most or all of your property falls under the “exempt” category then no sale takes place and you get to keep your property.
A reorganization usually consists of a plan to pay creditors at least a portion of their debts over an extended period of time.
A bankruptcy discharge removes a debtor’s obligation to repay certain debts. This is often just referred to as simply a “discharge.” This is the ultimate goal of a bankruptcy. This is the “finish-line”
A Chapter 7 is designed for debtors in financial difficulty who do not have the ability to pay their existing debts. This type of bankruptcy looks at your income and also the value of your assets. It is possible to be asset-rich and cash-poor.
A Chapter 13, commonly known as “Wage Earner Plan” or “Payback Plan,” deals with the reorganization of individuals with regular income. This helps people pay back some, most, or all of their debts in a more manageable way. One of the benefits is that government interest and penalties stop accruing while you are in an active Chapter 13.
A Chapter 11 deals with reorganizations of businesses and individuals who owe more than what a Chapter 13 is designed to handle.
Part II: A More In-Depth Look at the Difference between Chapter 7, 11, and 13
Chapter 7: Liquidation
- Court Filing Fee $335
Chapter 7 is designed for debtors in financial difficulty who do not have the ability to pay their existing debts. Debtors whose debts are primarily consumer debts are subject to an income test designed to determine whether the case should be permitted to proceed under Chapter 7. Occasionally someone may be cash-poor and easily qualify for a Chapter 7 income-wise but be asset-rich in which case a Chapter 7 may not be the best course of action. Under Chapter 7, a debtor may claim certain property as exempt—or “protected”– under governing law. A trustee may have the right to take possession of and sell the remaining property that is not exempt and use the sale proceeds to pay some of the creditors. To determine whether or not you will qualify under Chapter 7, you need to contact an experienced Kansas City bankruptcy attorney for a free consultation.
- Relatively inexpensive and quick.
- Discharge unsecured debts such as credit cards, personal loans, lines of credit, payday loans, car/house loan deficiencies, some income taxes, medical bills, utilities, etc.
- Stops collection efforts, garnishments, repossessions, and state court actions that are meant to recover money—a hospital suing you for an seriously past-due, outstanding bill, for example
- It is possible that you may not get to keep all of your assets. The best way to find out for sure is to speak with an attorney.
- If a creditor can prove that a debt arose from fraud, breach of fiduciary duty, theft, or from a willful and malicious injury, the Bankruptcy Court may determine that the debt is not discharged will therefore survive the Bankruptcy
Chapter 13: Reorganization
- Court Filing fee $310
Chapter 13 is designed for consumer individuals with regular income who find it beneficial to pay part of their debts in installments over a period of time. An individual’s ability to qualify for Chapter 13 is contingent upon many things best addressed by an attorney.
Under Chapter 13, the debtor must file with the court a plan to repay creditors all or part of the money that is owed, using the debtor’s future earnings. The period allowed by the court to repay the debts may be three years or up to five years, depending upon the debtor’s income and other factors. The court must approve the plan before it can take effect. Chapter 13 cases vary from situation to situation. For example and there are plans where the debtor doesn’t have much income and pays only their secured and priority debts and nothing else. There are plans where the debtor has a large income pays every creditor 100% of the debts (with filed claims). Finally, there are cases in between where the debtor’s income is more than enough to pay back just the secured and priority debts, but not quite enough to pay every creditor 100%.
- Debtors usually get to keep their assets, with few exceptions.
- Stops foreclosure sales, collection efforts, garnishments, repossessions and state court actions to recover money
- Mortgage or Auto Arrearages can be cured over the life of the Chapter 13 plan
- Car payments restructured to be paid over course of the Chapter 13 plan – for many filers, that results in smaller monthly car payments
- Taxes can be repaid without penalties accruing and at a discounted interest rate
- Discharge unsecured debts such as credit cards, personal loans, lines of credit, payday loans, car/house loan deficiencies, income taxes (if older than 3 years old and no tax lien), medical bills, utilities, etc.
- Stops collection efforts, garnishments, repossessions and state court actions to recover money
- More expensive than Chapter 7.
- The process is far longer than a Chapter 7.
- Discharge is not entered until all plan payments are made in 3 to 5 years, depending on your plan length. This means you are not officially “done” with your obligations to repay until you make it to your final payment.
Chapter 11 Reorganization
Filing fee $1,717
Chapter 11 is designed for the reorganization of a business but is also available to individual debtors. Chapter 11 is the only reorganization alternative if the debtor has debts above the Chapter 13 eligibility maximums. There is no legal maximum duration for a Chapter 11 plan. Creditors have the right to vote on whether to accept a debtor’s plan, and also have the right to propose their own plan. Debtors can not sell assets without the Court’s permission. Debtor’s can only keep a checking account at a bank that meets certain standards, and must identify themselves as “Debtors in Possession”, Debtors must obtain a federal tax ID number. Debtors must file monthly operating reports with the Court and they must pay a quarterly fee to the Office of the U.S. Trustee. After the Chapter 11 case is filed (usually within a week) there is an initial debtor interview with a member of the U.S. Trustee’s office where many of the rules of operation are explained to the debtor.
- Debtors usually get to keep their assets, with few exceptions.
- Allows for many of the same advantages as a Chapter 13.
- Significantly more expensive than both Chapter 7 and Chapter 13 because a Chapter 11 requires more time and effort from both the debtor and the attorney. Often times, the attorney fees alone are well over $25,000.00
Part III: Choosing your Chapter
There are certain factors that are involved in qualifying for a specific Bankruptcy Chapter. After qualifications are determined, the next step will be lining up the Chapter for which you qualify with your specific goals.
For instance, if you qualify for a Chapter 7 income-wise but you are months behind on your mortgage and facing foreclosure, then you may want a different solution than a Chapter 7. If you want to bring the loan current (get caught up on payments), avoid the foreclosure and keep your home, then a Chapter 13 may be the better option even if you do qualify for the Chapter 7.
As a further example, let’s say you definitely qualify for a Chapter 7 income-wise, but you own a large amount of free & clear land it in another state that you wish to keep. In this situation a Chapter 7 may not a good option for you.
The following is written mostly in legalese for those who are really interested in knowing the technical parts—don’t worry this is what would be handled by your experienced attorney at RS Law, L.L.C.
Section 707(b) of the Code allows the Bankruptcy Court to dismiss a Chapter 7 case filed by a debtor whose debts are primarily consumer debts if it finds that the granting of relief would be “an abuse of the provisions of this chapter.” It then goes on to create presumption of abuse where the consumer debtor’s Current Monthly Income (CMI) minus allowed expenses exceeds the state median income for the debtor’s household size.
In order to complete Form B22 (the Means Test) accurately, the following documents and information should be present: sufficient pay stubs and other evidences of income to determine Current Monthly Income (“CMI”); Schedules A-J and Statement of Intention accurately completed; documentation of special circumstances that evidence justification for taking expenses that exceed the IRS standard deduction.
Section 101(10A) defines “current monthly income” (CMI). CMI includes the debtor’s total income from all sources (except social security benefits), for the six months ending in the month prior to the month of the bankruptcy filing. CMI also includes any amount paid by any other entity toward the debtor’s household expenses on a regular basis.
Code Section 101(39A) defines Median Family Income (MFI) as the median family income calculated and reported by the Bureau of the Census in the most recent year, or as most recently adjusted. The Census Bureau publishes figures for each state, for families of household sizes from one to five. The Debtors’ state of residence and household size is compared to state median income for that household size. Where the numbers land after that will determine whether or not you are “above median income” or “below median income”. This point is a fork in the road that your attorney will help you navigate with all your options, and their respective pros and cons.
Part IV: Choosing your Attorney
Not All Bankruptcy Attorneys are Created Equal
Sometime in the future, or perhaps right now as you read this article, you may think to yourself “That’s it. I’m done with this staggering debt.” After some serious thought, Bankruptcy is starting to sound like a real possibility for you.
The next step is to contact a bankruptcy lawyer, but which one? How do you know where to look? Many advertise on TV and radio while others do so on billboards and at bus stops. They seem nice, have a warm smile, and claim to be there to help you. Asking friends for a recommendation can be an awkward proposition. A discreet online search, maybe? Yet, you find yourself thinking that you can’t tell for sure if the attorney you come across will be there to truly help you.
Filing for bankruptcy is a serious step, requiring excellent advice and the right representation. In 2005 the Bankruptcy Code was rewritten by the The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) (Pub.L. 109–8, 119 Stat. 23, enacted April 20, 2005)—which is a legislative act that made several significant changes to the United States Bankruptcy Code.
The Bankruptcy Code was rewritten into what now is often referred to as
“Unquestionably, [the] most poorly written piece of legislation that I or anyone else has ever seen,” – U.S. Bankruptcy Judge Keith M. Lundin, “No one has ever seen a piece of garbage like this,” he adds. “There’s going to be the most fantastic anarchy in bankruptcy courts for years.”
This has resulted in a highly specialized area of the law which is best left to knowledgeable practitioners. Time and again our office has watched as other attorneys at other law firms inadequately represent their clients. Giving their client poor advice or causing the client to lose their property. That being said, know that there is a difference between an attorney who practices in a specialized area of law and one who exclusively practices in specialized area of law. When it comes to Bankruptcy, a common pitfall for someone looking for help with their Debts is to hire a Bankruptcy Mill.
Beware the Bankruptcy Mill
There are bankruptcy mills throughout the greater Kansas City Area. A Bankruptcy Mill brings you in, and churns your case through. Are your personal finances unique? Are they different from your neighbor? These questions do no matter to a bankruptcy mill. To a Bankruptcy mill you are cookie dough, shoved through a cookie cutter, with little or no care.
A bankruptcy mill is interested in you ONLY for what you can do for them. Their job is to crank out the maximum number of cases each month and often do so with as little specialized attention as possible. Often times these firms push their attorneys to file a minimum number of cases each month, or to maintain a minimum closing ratio. I have heard horror stories from clients with improperly filed bankruptcies from bankruptcy mills. Stories ranging from clients whose debts are deemed non-dischargeable due to the attorney’s inadequate litigation skills, to the Debtor who has lost their home due to the attorney’s inattention to detail.
Choosing an attorney to represent you in one of your most difficult times is a tough decision. You may not choose us to represent you. If nothing else it is my hope that you walk away today being wary of the dreaded Bankruptcy Mill.
Signs That You are Dealing With a Bankruptcy Mill
- The firm boasts about how many cases it files – While the firm may claim this is an indication of success, it is the most obvious statement that you are just another number to them.
- Your attorney doesn’t attend your creditor’s meeting – If you are dealing with a bankruptcy mill, it is likely that you already know by this point. Your fears will be further realized when the person you thought was your attorney, is in fact not the person who represents you at your meeting.
- The only option you’re told about is to file bankruptcy – Often times, a client may come to see me and they have more attractive options other than bankruptcy. A good bankruptcy attorney knows all the alternative options and will share them with you. You may still choose bankruptcy in the end, however you are given options to choose from.
- High turnover of attorneys and staff members – If you notice your bankruptcy firm often has new employees this should be a giant red flag. A bankruptcy mill often treats its employees just like its clients; just another number. If the firm treats its employees poorly, how do you think they treat their clients?
You don’t have to settle for such impersonal and non-attentive treatment from your bankruptcy attorney. There are firms out there where experienced bankruptcy attorneys take their time meeting with you, evaluating your case, and protecting your assets. I know they exist because RS Law is one of them.
Bankruptcy is a stressful event for most people and your attorney should seek to lessen that stress by answering your questions quickly and being available throughout the process.
Part V: Your Credit Score
One of the most common questions we get from our clients is, “How will this affect my credit?” The common myth is that a bankruptcy will ruin an individual’s ability to obtain credit in the future. While the filing of a bankruptcy will have a negative effect on credit scores, many of our clients find themselves pleasantly surprised at how quickly they bounce back, and at how bankruptcy helps them get their finances back in order.
In the most cases, the credit score of someone considering bankruptcy has already taken a hit from the debt obligations which they have been unable to pay (payday loans, personal loans, vehicle payments, mortgage, medical bills, credit cards, etc.). As a result, some, most, or even all of their creditors have started reporting negatively on their credit report. The result of which is a damaged credit score.
Falling behind on these obligations will cause a credit score to take a hit, however most of my clients find that the filing of a bankruptcy stops the bleeding. Once the bankruptcy is filed, your creditors are no longer able to report to the credit bureaus. This means, that the negative reporting ceases immediately, on a go-forward basis.
The exact formulas the credit bureaus use to calculate an individual’s credit score are a closely guarded secret. However, it is common knowledge in the credit industry that a considerable portion of your credit score is made up of your outstanding debt compared to your income. Many times you hear this referred to as your “debt to income ratio.” This value represents, and somewhat predicts, an individual’s ability to repay a loan. With a host of outstanding bad debts, your borrowing future is limited. The best way to explain it is that you are considered a risky borrower if you are a millionaire with one million dollars in your bank account but have a billion dollars in debt. Despite having a million, you have several hundred millions in debt and as a result your income is already spread thin across your obligations.
With bankruptcy, however, your old outstanding debts are usually forgiven upon receipt of your discharge. Since all (or most) of your debts are gone, your “debt to income ratio” is very little or no debt and all income.
Many of our clients are shocked when they begin to receive credit card and vehicle offers soon after discharging their bankruptcy. This is typical, and is a result of the credit industry viewing you as a good bet. After all, you have just completed a credit counseling course, a financial management course, and are not eligible for another bankruptcy discharge for years. Typically your credit score after bankruptcy will be better within a year. Sometimes, it can be even better than before the bankruptcy.
A word of caution: The first few waves of offers often come with very high interest rates. Eventually, the rates will go down over time. Especially if you work diligently to improve your credit.