You may have read about filing under Chapter 7 or Chapter 13. You may have heard on the news that a company is filing for Chapter 11 protection. But what does it all mean? Simply put the Bankruptcy Code is divided into chapters which setup different processes. Which chapter you file under depends on who you are and what your goals are.
The Chapters of the Bankruptcy Code:
There Bankruptcy Code is divided into the following nine chapters:
- CHAPTER 1—GENERAL PROVISIONS
- CHAPTER 3—CASE ADMINISTRATION
- CHAPTER 5—CREDITORS, THE DEBTOR, AND THE ESTATE
- CHAPTER 7—LIQUIDATION
- CHAPTER 9—ADJUSTMENT OF DEBTS OF A MUNICIPALITY
- CHAPTER 11—REORGANIZATION
- CHAPTER 12—ADJUSTMENT OF DEBTS OF A FAMILY FARMER OR FISHERMAN WITH REGULAR ANNUAL INCOME
- CHAPTER 13—ADJUSTMENT OF DEBTS OF AN INDIVIDUAL WITH REGULAR INCOME
- CHAPTER 15—ANCILLARY AND OTHER CROSS-BORDER CASES
The Chapters 1, 3 and 5 establish definitions and procedures that apply generally to all the types of bankruptcy and Chapter 9 only applies to Municipalities. Even though there are five remaining Chapters to consider, for most individuals and married couples, the real question is whether you should file under Chapter 7 or Chapter 13 of the Bankruptcy Code.
Chapter 7: Liquidation
The title of this chapter sounds scary and causes many people to think they will have to sell everything they own if they file for bankruptcy. The reality is that many individuals have nothing that can be liquidated. The same bankruptcy chapters are used by corporations and individuals alike, and the real liquidations happens when a company goes out of business and must sell of its assets. For an individual most ordinary possessions will qualify for an exemption and be excluded from the “Bankruptcy Estate”, meaning there will be nothing to liquidate. Usually, the only asset that may exceed the exemption is the equity in your home, if that is too great you may be better off filing under Chapter 13.
Not all individuals can file under Chapter 7, to do so you must pass what is called the “Means Test.” The purpose of the “Means Test” is to exclude people who earn enough to pay at least some of their “Unsecured Debt” back from using Chapter 7 instead of Chapter 13. Anyone with an “Average Monthly Income” below the median in their state automatically passes the “Means Test” (in Pennsylvania median annual income is $57,919 for an individual and $105,138 for a family of 4). If you qualify “Unsecured Debt,” and your personal obligation on “Secured Debt,” will be discharged, with a few exceptions.
Chapter 13: Adjustment of Debts of An Individual with Regular Income
As the title of this chapter suggests you need regular income to qualify. You need income because the core of Chapter 13 is the repayment plan. Individuals whose income is too high to file for Chapter 7 must enter a five-year repayment plan. Some individuals who otherwise qualify for a Chapter 7 may chose to file under Chapter 13 because the repayment plan gives them a chance to get caught up on past due “Secured” or “Non-Dischargeable” debts. If your income is low enough that you could have filed under Chapter 7 can chose a three-year repayment plan.
The repayment plan needs to be approved by the Bankruptcy Court. To be approved the repayment plan must pay back all past due amounts and make all upcoming payments of your “Secured Debt.” Any remaining portion of your “Disposable Monthly Income” is used to pay your “Unsecured Creditors.” Your “Unsecured Creditors” also must receive at least as much in a Chapter 13 as they would have if you had filed under Chapter 7.
Over the course of five years, it is not uncommon for circumstances to change; people change or lose their jobs, have children, become ill, need to purchase a new car. You can modify your Chapter 13 plan to reflect these changes, but that requires court approval. It is also not uncommon for debtors to begin under Chapter 13 and convert to a Chapter 7 if they are unable to keep up with the payments. However, if you do successfully complete your Chapter 13 repayment plan your remaining “Unsecured Debt” is discharged.
The Remaining Chapters
The remaining chapters of the bankruptcy code are not frequently used by individuals if at all. Chapter 11 is primarily used by businesses that wish to keep operating but need relief from their debts to remain solvent. Individuals occasionally file under Chapter 11 if their amount of debt is too high for a Chapter 13 (currently $394,725 in “Unsecured Debt” and $1,184,200 in “Secured Debt”). As the name suggest Chapter 12 is intended for farmers and fisherman and has special protections. Finally, Chapter 15 is used be foreign nationals with property in more than one country, including the United States.