According to federal bankruptcy law there are six different categories under which individuals or business entities can file for bankruptcy. For the purposes of this article we will discuss only two: Chapter 7 and Chapter 13 bankruptcies. These two specific filings are the ones most commonly used for individuals filing on a personal basis. Both have their own stated purposes and specific rules and regulations governing them.
It must be noted that while personal bankruptcy filing is certainly possible in the United States, it should be undertaken only as a last resort. In fact, the law has been set up in such a way as to ensure that this is the case most of the time. Bankruptcy should not be used as a way to simply wipe out your debts just because you don't want to make good on them. You need to have exhausted all other options available to you before you file for bankruptcy.
Chapter 7 Bankruptcy
Chapter 7 bankruptcy is perhaps the easiest way for individuals to go. It is nothing more than a court supervised liquidation of all assets in order to pay off creditors as much as possible. When the proceeding is complete all non-dischargeable debts are completely done away with - even if creditors have not been fully satisfied. Because of this, many individuals see this as a sort of "get out of jail free" card. But be aware it is anything but that.
Understand that not all debts are dischargeable under bankruptcy. While each form of bankruptcy has its own category of non-dischargeable debts, some of the more common among all of them include alimony and child support, tax liens, student loans, mortgages, and some car loans. These types of debts will still be in force after bankruptcy, and the individual will still be responsible for them. In case of a mortgage or car payment, you can still be foreclosed upon after bankruptcy if you don't keep those debts current.
Also keep in mind that Chapter 7 bankruptcy does come with some eligibility requirements. Among them is something known as the "means test". In other words, the court will consider your current income, your total debt load, and the cost of living with future increases added. When all of these things are combined, the court will not allow you to file under Chapter 7 if it is determined you have sufficient financial resources to pay off what you owe - even if it takes an extended amount of time.
Chapter 13 Bankruptcy
Chapter 13 bankruptcy is the personal bankruptcy equivalent of Chapter 11. The law recognizes Chapter 13 as a reorganization or rehabilitation plan, involving the individual coming up with a reasonable and workable plan to pay off all creditors within 3 to 5 years. Most of the time this plan is worked out with the help of a financial advisor, credit counseling agency, and/or attorney. If the court approves the repayment plan all creditors must cease collection efforts on any amounts covered under the bankruptcy proceeding.
The advantage of the Chapter 13 filing is that individuals are allowed to retain ownership of all their assets. In other words, the court is simply putting restrictions on the both debtor and creditor to ensure that problems are not made worse, while giving the debtor the opportunity to repay what he owes without the hassle of collection efforts. This is far better than Chapter 7 liquidation if the individual in question has a lot of valuable assets he wants protected.
As with the Chapter 7 bankruptcy, keep in mind there are specific rules and regulations governing Chapter 13. The bankruptcy court will assess all the same circumstances as would be considered for Chapter 7, and then rule accordingly. The one thing the court will not do is provide a reorganization plan for you. That task is left up to you and your advisors and only submitted to the court for final approval.
Individuals also need to be aware that Chapter 13 bankruptcy only protects personal assets as long as the debtor remains faithful to the repayment plan. The moment he is behind on his agreed debt payments he jeopardizes his assets. A court will generally be lenient for a little while, but certainty not forever. Therefore, it's incumbent on Chapter 13 filers to come up with a plan they know they can stick with so that they don't jeopardize assets. The plan should include for complete settlement of all debts no longer than five years down the road.