Bankruptcy—What it is versus What it is not:

Bankruptcy is the legal process by which a person or a business that has become unable to pay its bills may have those debts canceled, which relieves the individual or business from having to repay those debts. The purpose of bankruptcy is to allow one who has suffered financial hardship to receive a fresh start and in some cases, to even save one’s home from being lost to foreclosure.

Bankruptcy law is federal law and is written by Congress in accordance with Article I, Section 8 of the United States Constitution, which authorizes Congress to enact “uniform Laws on the subject of Bankruptcies….” Title 11 of the United States Code is where Congress wrote most of the law regarding bankruptcy.

Though there are five chapters in bankruptcy, only two of them are relevant for individuals unless the person is a farmer by occupation. The two chapters (types) of bankruptcies that we’ll talk about are Chapter 7 and Chapter 13. Chapter 7 is available to individuals and to corporations, and is commonly thought of as “liquidation” or complete debt forgiveness. This is the most common chapter of bankruptcy, and it is discussed in greater detail in the Chapter 7 vs. Chapter 13 link on this website.

Chapter 13 is available to individuals and sole proprietorship businesses, but not to corporations or partnerships. This chapter is commonly known as the “wage earner plan” or “individual reorganization.” This is the second most common form of bankruptcy, and is discussed in greater detail in the “Chapter 7 vs. Chapter 13” link on this website.

The first step one generally takes in filing for bankruptcy is to contact a bankruptcy attorney and set up a consultation. After the consultation, the attorney will advise the person to either file a bankruptcy or take another course of action as the circumstances may lead. If one files for bankruptcy, that person must consult with an approved credit counseling agency either on the internet, by telephone, or in person for approximately one hour and obtain a certificate from that agency. This certificate is good for 180 days and must be obtained before the bankruptcy case is filed. That person has to complete a two hour course prior to their case becoming final. This course is a personal financial management course and is available online and in some cases, in person. Only certain companies are approved to provide both the certificate and the course, and it is easier to use a company that is authorized to do both since you only have to pay one time to do this. Click here for a complete list of providers of both services in the country.

If the attorney recommends bankruptcy, then the attorney will explain the various chapters of bankruptcy that are available and which chapter he or she believes is best for the individual’s situation. Chapter 7 is generally finished in about three or four months, and Chapter 13 usually lasts 36-60 months during which time the person who filed bankruptcy makes monthly payments to the bankruptcy court to pay back a portion of his or her debt, depending on what he or she can afford to repay (see the “Chapter 7 vs. Chapter 13” link on this website for more details).

The attorney will also discuss which debts are “dischargeable” (wiped away, forgiven) and which debts are “nondischargeable” by the bankruptcy case. In other words, not all debt will be discharged by bankruptcy, and some chapters of bankruptcy discharge certain types of debts that other chapters will not discharge. Generally speaking, debts which bankruptcy normally will not discharge are taxes that are less than three years old, student loans, back child support, alimony, injuries or damages caused by an accident in which alcohol or drugs were involved, criminal restitution, and certain other specifically defined types of debt. Bankruptcy generally will discharge virtually every other kind of debt, including credit cards, medical bills, utility bills, loans, etc.

Finally, the attorney will discuss the “exemptions” which apply to the individual’s bankruptcy case. An “exemption” is a certain dollar value of real estate and personal property that a person who files bankruptcy may retain. All real estate and personal property which is “exempt” may be retained by the person filing bankruptcy, but all property which is not exempt may be sold by the trustee of the bankruptcy court, with the proceeds of the sale being given to the creditors. Each State determines how much property a person may retain when filing bankruptcy, so how much real estate and personal property one may retain depends on the law of the particular State in which the person resides.

Questions one should remember to ask during a consultation with a bankruptcy attorney include (1) are there any non-bankruptcy alternatives available? (2) What will happen to one’s property, including real estate and personal property, if one files bankruptcy? (3) Is it best to file alone or with one’s spouse (if married)? (4) How much will the bankruptcy cost and what other fees may apply? (5) What debts will be discharged and what debts will still have to be paid when the bankruptcy is over? (6) What will happen to one’s credit rating as a result of the bankruptcy filing?

If one decides to file bankruptcy, he or she will then provide information to the attorney regarding all of his or her assets, debts, income, and expenses (among other things). The attorney will prepare the paperwork for the person’s review, which the individual will then sign. One should be sure to review all of the paperwork carefully, and ask any questions that one may have regarding the information contained in the paperwork. Thoroughness and accuracy are both very important.

A person who files bankruptcy is referred to by the Bankruptcy Code as a “debtor,” and the persons and businesses to whom the debtor owes money, goods or services are the “creditors.” The debtor initiates his or her bankruptcy proceeding by filing a “bankruptcy petition” with the United States Bankruptcy Court that presides over the district in which the debtor resides. The bankruptcy petition is the document one signs in the attorney’s office.

Once the bankruptcy petition is filed, the bankruptcy court assigns a unique Bankruptcy Case Number to the bankruptcy petition and will appoint a bankruptcy trustee, also called simply a trustee, to oversee the debtor’s case. The job of the trustee is to ensure that both the debtor and the creditors are treated fairly, and if the trustee feels that some inequity is taking place or that the Bankruptcy Code is not being followed by either the debtor or creditor, the trustee may refer these issues to the bankruptcy judge for resolution.

Immediately upon filing the bankruptcy petition, the debtor is protected by the “automatic stay” in most cases, which means that creditors are automatically ordered by the bankruptcy court to stop all collection attempts against the debtor. This means that creditors cannot call or bill the debtor, or repossess a car or foreclose on a home, or continue or start a wage garnishment, once the bankruptcy petition is filed unless those creditors first get permission from the bankruptcy court to do so. If creditors do call, bill, or otherwise continue to harass the debtor after the petition is filed, debtors are generally advised to provide their Bankruptcy Case Number to the creditor and ask the creditor to call the debtor’s attorney for verification. The bankruptcy filing generally stops garnishments, lawsuits, foreclosures, and writs of attachment as well. In some cases, the automatic stay may only remain in effect for 30 days or not go into effect at all, if the debtor has filed previous bankruptcy cases recently (see your attorney for details).

The Bankruptcy Code requires every debtor to attend a brief hearing regarding his or her bankruptcy case, and this hearing is called the “First Meeting of Creditors” or the “341 Hearing” (since section 341 of the Bankruptcy Code is the section which requires that this hearing be held). A week or so after the bankruptcy petition is filed with the bankruptcy court, the debtor will receive a letter from the bankruptcy court advising the debtor of the date, time, and location of the debtor’s First Meeting of Creditors. The hearing date is usually around five weeks after the date on which the bankruptcy petition was filed. The location of your hearing depends on the County in which you reside. Click here to see which Court you will go to based on the County in which you live.

It should be noted that the name “First Meeting of Creditors” is misleading for a couple of reasons. First, there is no “Second” Meeting of Creditors, and the First Meeting of Creditors is generally the only hearing that takes place in the typical bankruptcy case (though there are in some cases a second or third hearing. Secondly, this hearing is not really a “meeting of creditors” since creditors usually do not even attend at all. Typically, the hearing is comprised only of the trustee, the debtor, and the debtor’s attorney. Creditors have the right to appear at the hearing and ask the debtor questions if they wish, but they seldom do.

After the hearing is over, in a Chapter 7 case the debtor will normally receive an “Order of Discharge” in the mail about 60-70 days after the date of the hearing, which is the bankruptcy court’s order that the Chapter 7 debtor’s dischargeable debts are officially discharged. Upon receiving this Order of Discharge, the Chapter 7 bankruptcy case is over. In a Chapter 13 case, after the hearing the Chapter 13 debtor will normally receive an “Order of Confirmation” in the mail about 30-60 days after the date of the hearing, which is the bankruptcy court’s order approving the debtor’s Chapter 13 Plan (see the “Chapter 7 vs. Chapter 13” link on this website for more details). Once the Chapter 13 debtor makes all of the monthly payments required by the Chapter 13 Plan (which takes 36-60 months), the Chapter 13 debtor will receive an Order of Discharge in the mail, at which time the Chapter 13 bankruptcy is over.

Each person who files bankruptcy must also attend a financial management class (about 2 hours long) before receiving their discharge. This class is available to be taken after the hearing.

Chapter 7 goes onto one’s credit report and stays for ten years, and Chapter 13 is on one’s credit report for seven years. It should be noted, though, that even though credit counseling companies will use scare tactics to discourage people from filing a bankruptcy, if one uses the services of credit counseling companies, that fact stays on one’s credit report for seven years and is usually treated by most mortgage lenders as if the person filed a Chapter 13 bankruptcy. In fact, in a mere 12 -18 months after the discharge of a bankruptcy, one’s credit score usually goes higher than if the person were similarly situated prior to the bankruptcy and had opted for a credit counseling program. Furthermore, one has to pay usually every dime of the principal balance of one’s debts when one opts for a credit counseling program, whereas bankruptcy wipes out (discharges and forgives) usually almost all of unsecured debt. Finally, there is nothing that a credit counseling program does for a consumer that the consumer cannot do for himself or herself. Bankruptcy will temporarily reduce one’s credit score by 75-150 points, depending on the case. But as long as you pay your bills on time after your bankruptcy discharges, and you develop some new credit and are responsible with it after your bankruptcy, your credit score will actually rise to a point higher than would be the case if you had done consumer credit counseling, in almost all circumstances. You can get a mortgage loan in many cases one day after your bankruptcy discharges; in most case, however, you will need to wait 12 months after your bankruptcy is over before you can obtain a mortgage loan.

This website is designed to provide general information only. The information presented in this site should not be construed to be formal legal advice or the formation of an attorney-client relationship. Persons accessing this website are encouraged to seek independent legal counsel for guidance regarding their individual circumstances.