According to federal bankruptcy law there are two ways individuals or business entities can initiate a bankruptcy proceeding. The first, and most common, is a voluntary bankruptcy initiated by an individual or company that cannot meet current financial obligations. The second type is known as involuntary bankruptcy and is initiated by creditors who fear they will not get paid without forcing the action. Either way, if you find yourself involved in a bankruptcy proceeding it will certainly not be the happiest point of your life.
A voluntary bankruptcy is, by its very nature, a better situation for you to be in. In a voluntary scenario you have demonstrated to a court that you recognize your financial difficulty and are trying to work your way out. On the other hand, an involuntary bankruptcy shows the court that you are persistent in trying to continue with the status quo. Not that the law applies differently to the two scenarios, but judges are human; you don't want to be on their bad side if you can avoid it.
The Chapter under Which You File
There are several different chapters of the federal code under which you may file for bankruptcy. It doesn't matter which chapter you choose, all can be done voluntarily by the individual or entity filing the petition. For corporations, the most common form is Chapter 11. In a Chapter 11 proceeding the company is asking for protection from creditors while it develops a reorganization plan that will enable it to get its financial house in order. During the reorganization period the company's creditors must cease collection efforts on past balances. They will however, be given input in accepting the plan set forth by the company as to whether or not it is satisfactory to them.
If you're an individual you may file under Chapter 13 or Chapter 7. Chapter 13 is the individual equivalent of a Chapter 11 reorganization. Under this filing you will be asking for protection from your creditors in the same way a corporation would. During that time you will submit your reorganization plan to the court demonstrating how you will repay your debts within 3 to 5 years. If the court approves your plan you will then have to make good on it throughout its duration. Failing to do so may jeopardize your assets.
Unlike Chapter 13, where your personal assets are protected, a Chapter 7 bankruptcy sells all of your qualifying assets as a means of paying off your creditors. The term "qualifying" is paramount to understanding a Chapter 7 liquidation. Qualifying assets include things like vacation property, valuable collector’s items, artwork, electronic equipment, various types of securities, furniture, and so forth. Non-qualifying assets (those that cannot be sold) include your primary residence, a car that you use to drive to and from work, annuities and life insurance policies, 401(k) plans, and any property jointly owned with someone else who is not involved in the bankruptcy.
Bankruptcy is Not a Clean Slate
Even though voluntary bankruptcy is more beneficial than an involuntary one, neither allows your slate to be wiped clean. First of all, be sure you understand the difference between dischargeable and nondischargeable debts. Dischargeable debts are the ones that can be eliminated through bankruptcy while nondischargeable cannot. So, while the bank cannot seize your primary residence in a liquidation proceeding, your mortgage is not dischargeable. You will still have to bring all mortgage payments current in order to avoid foreclosure. Other types of nondischargeable debt include student loans, auto loans, back taxes, back child support and alimony, and any debts incurred while participating in illegal or fraudulent activity.
Furthermore, a bankruptcy will remain part of your credit history for a minimum of seven years; it is 10 years in some states. For as long as that remains on your record you will encounter some inconveniences. First and foremost will be an inability to secure future credit with reasonable terms and rates. Within the first two years of discharge, acquiring new credit will be nearly impossible. After that, what you are able to acquire will have high interest rates and stringent terms.
Lastly, what many people don't understand about a voluntary bankruptcy is that it can hinder your ability to find a job or apply for a new position within your current company. Most people do not realize that employers routinely look at credit histories when making personnel decisions. As the thinking goes, if you are unable to show discipline regarding your own financial situation you most likely will be undisciplined in the workplace. Whether it is justified or not, that is the perception.
Bankruptcy is a Last Resort
Whether a bankruptcy is voluntary or not, it is considered by a court to be the last resort. Therefore, where individuals are concerned the law requires them to undergo consumer credit counseling before they can file a bankruptcy petition. This counseling will teach the individual the best ways to work himself out of the current situation and then prevent it from occurring again in the future. You must take the counseling from an accredited agency that will then provide you with a certificate of completion. That certificate must be included with your petition before the bankruptcy court will accept it.