The philosophy of the United States bankruptcy laws is to allow a debtor who has gotten hopelessly in debt an opportunity to start over and to provide for appropriate distribution of the debtor’s estate to his creditors.
The U.S. Bankruptcy Code consists of federal laws which are enforced and interpreted by federal courts. The 2005 changes, which fall under the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA), introduced what many experts consider to be among the most sweeping changes to personal bankruptcy law, particularly for those who seek to liquidate their debts.
Jurisdiction over bankruptcy cases is in the United States district courts. These courts may refer all bankruptcy cases and related proceedings to bankruptcy courts which are adjunct courts to the federal district courts. As a practical matter, the United States district courts almost always refer bankruptcy proceedings to the adjunct bankruptcy courts.
KINDS OF BANKRUPTCY PROCEEDINGS
Three common bankruptcy proceedings available to individuals and businesses are:
- Liquidation, sometimes called a Chapter 7 bankruptcy;
- Reorganization, sometimes called a Chapter 11 bankruptcy; and
- Extended Time Payment, sometimes called a Chapter 13
Chapter 7 bankruptcy is one in which all of the debtor’s assets (with some exceptions) will be liquidated in order to pay debts. Debts that are not paid or which are only partially paid are discharged, with some exceptions.
Chapter 11 bankruptcy allows a debtor to reorganize and continue a business with protection from creditors and without liquidation. This proceeding normally applies to individuals and corporations with large and complex debts,
Chapter 13 bankruptcy provides a form of reorganization for individual consumers. A plan must be proposed by the debtor that provides for repayment of the debt with protection from court procedures of creditors.
The bankruptcy code has a special chapter for family farmers and family fishermen, Chapter 12, but they may opt to file under Chapters 11 or 13 instead. Municipalities seeking bankruptcy protection do so under Chapter 9, which mandates reorganization.
VOLUNTARY AND INVOLUNTARY BANKRUPTCY
The principal difference between a voluntary case and an involuntary case is the manner in which the proceedings are initiated. With a few exceptions, a voluntary bankruptcy case is commenced by the debtor filing a petition with the bankruptcy court. An involuntary bankruptcy case is commenced by creditors of the debtor filing a petition with the bankruptcy court. If there are 12 or more creditors, at least three whose unsecured claims total $12,300 or more must sign the involuntary petition. By unsecured claims, I mean claims which are not secured by a security interest, mortgage, deed of trust, or similar such security device. If there are fewer than 12 creditors, not including employees or insiders, any creditor whose unsecured claim is at least $12,300 may sign the petition. An insider would be someone like the debtor’s relatives, partners, directors, or controlling shareholders. For purposes of the $12,300 figure, regarding creditors who hold security for a claim, only the amount of the claim which is in excess of the security is counted.
A debtor may contest an involuntary bankruptcy petition. If an involuntary petition is dismissed other than by consent of all petitioning creditors and the debtor, the court may award the debtor his expenses, such as attorneys’ fees. Damages may be recovered against any creditor who files a petition in bad faith (i.e., without reasonable grounds).
AUTOMATIC STAY
After the filing of the bankruptcy petition, the debtor needs protection from the collection efforts of its creditors. Therefore, the bankruptcy law provides that the filing of either a voluntary or involuntary petition operates as an automatic stay which prevents most creditors from taking action against the debtor. This is similar to an injunction against the creditors of the debtor. The automatic stay ends when the bankruptcy case is closed or dismissed or when the debtor is granted a discharge.
LIST OF CREDITORS
It is the debtor’s responsibility to furnish the bankruptcy court with a complete list of creditors. Failure to list a creditor will result in that creditor not being discharge by the court. In other words, the debt of any unlisted creditor is not affected by the bankruptcy.
TRUSTEE IN BANKRUPTCY
The trustee in bankruptcy can be elected by the creditors. A trustee will be appointed by the court if a trustee is not elected by the creditors. The trustee automatically “owns” all of the nonexempt property of the debtor and also property inherited by the debtor within six months after the filing of the petition. The trustee possesses the rights of a most favored creditor of the debtor (like he had a security interest in property). This means that the trustee can set aside certain transfers of property by the debtor.
THE BANKRUPT’S ESTATE
The debtor’s estate, which is held by the trustee generally consists of:
- all property owned by the debtor at the time of the filing of the petition that is not exempt under the Bankruptcy Code;
- property inherited by the debtor within six months after filing for bankruptcy; and
- property recovered by the trustee by setting aside improper transfers (e.g., transfers to defraud creditors) and preferences (discussed below). An example of an improper transfer would be where a debtor had, a few months before declaring bankruptcy, conveyed land to his brother without consideration in order to keep the land out of the bankruptcy estate.
VOIDABLE TRANSFERS
The trustee can set aside transfers of property which were made to prevent creditors from satisfying their legal claims. These transactions can be set aside by the trustee if they were made by the debtor within one year of bankruptcy when the debtor’s actual intent was to hinder, delay, or defraud creditors by making such a transfer. The trustee may also set aside certain transfers of property when the effect of the transfer was to make the debtor insolvent.
Preferential Transfers
A transfer of property by the debtor to a creditor may be set aside and the property recovered by the trustee if:
- The transfer was made to pay a debt incurred at some earlier time;
- The transfer was made when the debtor was insolvent and within 90 days before the filing of the bankruptcy petition; and
- By virtue of the transfer the creditor received more than he would have received in a liquidation of the debtor’s estate.
Transfers to insiders may also be set aside if made within 12 months prior to the date the petition was filed. Examples of insiders would be the debtor’s relatives, partners, directors and controlling persons of a corporation.
Certain transfers by a debtor may not be set aside as preferences. For example, a transfer for a present consideration, such as a cash sale, may not be set aside. A payment by a debtor in the ordinary course of business, such as payment of a utility bill, may not be set aside. A payment by a debtor whose debts are primarily consumer debts may not be set aside if the value of the transfer is less than a certain specified amount. Child support and alimony payments are not subject to the preferential provisions.
PROOF OF CLAIM
Bankruptcy law regulates the manner in which creditors present their claims and how the assets of the debtor are to be distributed in payment of these claims. As mentioned earlier, the debtor must file a list of creditors. The creditors that wish to participate in distribution of the proceeds of the liquidation of the debtor’s estate must file a proof of claim. A proof of claim is a written statement signed by the creditor which describes the claim against the debtor and the basis of the claim. Ordinarily it must be filed within 90 days after the first meeting of creditors. A creditor must file its proof of claim even if the trustee in fact knows of the existence of the claim. A claim is a right to payment, whether it is disputed or undisputed by the debtor.
PRIORITY OF CLAIMS
Creditors who hold a lien securing the indebtedness of the debtor do not lose their lien as a result of the bankruptcy. With the court’s permission, they may enforce their debt by selling the security (whether it be land covered by a mortgage or a security interest on personal property). Creditors who are not secured share in the remaining assets of the debtor. Some have priority over others. Each claim must be paid in full before any lower claim is paid anything. If a class of claims cannot be paid in full, the claims in that case are paid on a pro rata basis.
A general summary of the order of priority is as follows:
- Secured debts;
- Administrative expenses;
- Claims arising in the ordinary course of the debtor’s business;
- Certain wage claims;
- Claims for contributions to employee benefit plans (pensions);
- Claims by consumer creditors;
- Taxes; and
- General creditors.
DEBTOR’S DUTIES AND EXEMPTIONS
The Bankruptcy Code provides that the debtor has certain duties after filing his petition. The Code also provides for specific exemptions of some of the debtor’s estate from the claims of creditors.
The debtor must file with the court a list of his creditors, a schedule of his assets and liabilities, and a statement regarding his financial affairs. He must also appear for examination under oath at the first meeting of creditors.
The Code allows the debtor to keep certain of his property and claim it as being exempt from the claims of creditors. This is known as exempt property. Generally, the debtor has a choice of exempt property as described under State law or exempt property as described under the Federal Bankruptcy law. The debtor will of course choose the law which is most favorable. Some general exemptions under federal law are:
- The debtor’s aggregate interest, not to exceed $15,000 in value, in real property that the debtor or a dependent of the debtor uses as a residence;
- The debtor’s interest, not to exceed $2,400 in value, in one motor vehicle;
- The debtor’s interest, not to exceed $400 in value in any particular item or $8,000 in aggregate value, in household furnishings, household goods, wearing apparel, appliances, books, animals, crops, or musical instruments, that are held primarily for the personal, family, or household use of the debtor or a dependent of the debtor;
- The debtor’s aggregate interest, not to exceed $1,000 in value, in jewelry held primarily for the personal, family, or household use of the debtor or a dependent of the debtor;
- The debtor’s aggregate interest in any property, not to exceed in value $800 plus up to $7,500 of any unused amount of certain exemptions;
- The debtor’s aggregate interest, not to exceed $1,500 in value, in any professional books, or tools of the trade of the debtor or the trade of a dependent of the debtor;
- Any unmatured life insurance contract owned by the debtor, other than a credit life insurance contract;
- Professionally prescribed health aids for the debtor or a dependent of the debtor;
- The debtor’s right to receive a social security benefit, unemployment compensation, or a local public assistance benefit;
- Veterans’ benefits; and
- Alimony, support, or separate maintenance, to the extent reasonably necessary for the support of the debtor and any dependent of the debtor.
DEBTOR’S PROTECTION AGAINST DISCRIMINATION
Federal, state, and local laws may not discriminate against anyone on the basis of a discharge in bankruptcy. Employees may not be discriminated against due to bankruptcy.
DISCHARGE IN BANKRUPTCY
The decree of the bankruptcy court which terminates the bankruptcy proceedings is generally a discharge that releases the debtor from most debts.
DENIAL OF DISCHARGE
The court may refuse to grant a discharge under certain conditions. Examples are:
- If within one year of filing the petition, the debtor has fraudulently transferred or concealed property with the intent to defraud creditors;
- The debtor has failed to keep proper financial records;
- The debtor has made a false oath or account in the bankruptcy proceeding;
- The debtor has failed to satisfactorily explain any loss of assets;
- The debtor has refused to obey a lawful order of the bankruptcy court;
- The debtor has obtained a discharge by a bankruptcy court within the last eight years.
REORGANIZATIONS AND PAYMENT PLANS UNDER CHAPTERS 11 and 13
As an alternative to liquidation, the Bankruptcy Code permits parties to restructure the organization and finances of a business so that it may continue to operate. A plan for reorganization of a business must be confirmed by the court. Generally, these plans must be acceptable to the majority of the creditors, and then the decision of the court is binding upon the minority creditors who do not accept the plan. Individuals, partnerships, and corporations in business may reorganize under the Bankruptcy Code. This is referred to as a Chapter 11 plan.
With regard to business reorganization, the first step is to file a plan for the reorganization of the debtor. This plan divides ownership interest and debts into those that will be affected by the adoption of the plan and those that will not. It will specify what will be done to those interests and claims that are affected by the plan. The plan must be confirmed by the court. Once the plan is confirmed, the owners and creditors of the business have only the rights that are specified in the plan and cannot change their positions.
The Code also allows individual debtors who meet certain financial criteria to adopt extended time payment plans for the payment of debts. An individual debtor on a regular income may submit a plan for installment payment of outstanding debts. This is called a Chapter 13 Plan. This plan must be confirmed by the court. Once it is confirmed, debts are paid in the manner specified in the plan. After all payments called for by the plan are made, the debtor is given a discharge. The plan is, in effect, a budget of the debtor’s future income with respect to outstanding debts. The plan must provide for the eventual payment in full of all claims entitled to priority under the Bankruptcy Code. The plan will be confirmed if it is submitted in good faith and is in the best interest of the creditors.
Sweeping Changes in 2005
The Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) was signed into law in April 2005 and went into effect on October 17, 2005. This act, designed to curb instances of bankruptcy fraud, had a direct impact on chapter seven bankruptcies. The most significant change was a requirement for Chapter 7 filers to pass a means test to determine whether they might be able to file Chapter 13 and pay back their debts over a five-year period. Debtors whose income was above the state median (a variable based on the number of people in the debtor’s household) would be required to file Chapter 13. Even those deemed eligible to file for Chapter 7 still face stricter requirements. Mandatory debt counseling must be completed within 180 days prior to filing for bankruptcy and the debtor must provide a certificate of counseling. The debtor must also supply additional proof of assets, including the most recent year’s tax return, evidence of payment from employers made 60 days before filing, and other forms and documents (including a photo ID). The amount of time before a debtor can file again for Chapter 7 bankruptcy has risen from six years to eight years.
Frequently Asked Questions
What are the most common reasons for filing chapter 7?
The most common reasons for filing a Chapter 7 bankruptcy include such things as:
- extended periods of unemployment, causing the debtor to be unable to pay his or her debts as they become due;
- large and often unanticipated medical expenses;
- seriously overextended credit beyond the debtor’s ability to repay, often accompanied by unreasonably high interest rates;
- marital problems which lead to financial hardship, and
- other large unexpected expenses.
Must I employ an attorney?
It is not necessary to hire an attorney to file for bankruptcy. However, in most cases the benefits of hiring an attorney outweigh representing yourself. Keep in mind that the bankruptcy code is very complex and filing a bankruptcy petition requires a thorough knowledge of the bankruptcy code and other laws. An experienced attorney can help you correctly list all of your obligations and help you keep as much property as possible and eliminate as much debt as possible. If you do not file the paperwork correctly, the problems you may face could exceed the cost of an experienced attorney.
Can I keep my home and automobile?
In a Chapter 7 bankruptcy, the debtor in many cases will be able to retain their home and automobile. Generally, the only way a debtor could lose the home or automobile would be when the debtor is behind in his or her obligation and cannot reach a payment agreement with the creditor, or the home or automobile has equity in excess of the exempt amount. If either of these two conditions exist, the debtor should consider filing a Chapter 13 petition, which permits the development of a plan for repaying creditors without necessarily liquidating assets.
If I am married must both of us file?
It is not required that both spouses file bankruptcy if one spouse decides to file. However, the non-filling spouse will still be liable on joint debts of the parties. It follows then that if the majority of debts are in both spouses names, both spouses should file bankruptcy or some of the benefits of bankruptcy will be lost.
What is the advantage to purchased forms over free forms?
The advantage to purchasing bankruptcy forms as opposed to utilizing free forms include the certainty of obtaining exactly the right forms needed for the debtor’s particular situation. In addition, by purchasing bankruptcy forms, often the debtor will receive detailed instructions on the appropriate use of the forms. This will prevent unnecessary delay in filing the case and increases one’s chances of having the bankruptcy approved by the trustee.
How creditors are notified that I have filed?
After a debtor has filed for bankruptcy protection, creditors are notified of the filing and the existence of the automatic stay by the bankruptcy court. Creditors will be given information regarding the first meeting of creditors, as well as deadlines for filing proofs of claim.
Will creditors stop calling after I file?
It is the debtor’s responsibility to furnish the bankruptcy court with a complete list of creditors. Assuming a creditor has been listed by the debtor, the creditor should cease all collection efforts. The automatic stay acts as an injunction against the continuance of any action by any creditor against the debtor or the debtor’s property. Anyone who willfully violates the stay in the case of an individual debtor can be liable for actual damages caused by the violation and sometimes liable for punitive damages.
Are there alternatives to bankruptcy?
Prior to making a decision to file bankruptcy, each individual should first attempt to contact his or her creditors and determine whether it is possible to obtain their cooperation in working out a different payment schedule. Most people would be surprised to learn that creditors often are willing to make reasonable modifications to assist the debtor in repayment. Communication and honesty are the key. The debtor should also take a close look at the value of his or her assets. If any have a resale value, consider whether a sale of those assets and the application of the proceeds of the sale to one’s debt will reduce the debt to a more manageable level and make bankruptcy a less attractive option.
Another option that may be explored is a consolidation loan. It may be possible for some debtors to obtain a consolidation loan to repay one’s debt, which very often will result in lower overall payments.
The Consumer Credit Counseling Service (CCC) is a nationwide nonprofit organization that attempts to work with both the debtor and his or her creditors to devise a more manageable repayment plan. This service very often results in revised payment plans which are acceptable to both the debtor and the creditor, thereby eliminating the need to file bankruptcy.
How do locate an attorney if I want one?
There are many ways of selecting an attorney. Perhaps the most familiar way is to ask friends or relatives who have hired attorneys in the past whether they would recommend that particular attorney. Another method is to contact the state bar association. Often state bar organizations have referral services. Also, organizations like the American Bankruptcy Institute and the Commercial Law League of America operate certification programs and can refer a debtor to a certified attorney in the debtor’s geographical area.
Will I be allowed to keep my credit cards?
Federal Bankruptcy Law requires you to list all of your creditors, not just the creditors whose debt you would like to discharge. Some creditors may allow you to keep their credit cards, but it depends on the creditor. It also depends on what your credit card balance is at the time of the bankruptcy; what the credit card issuer is willing to do, and how well you convince them that you can, and will, pay the present and any future credit card debt.
Can I borrow money after bankruptcy?
After bankruptcy it is possible to borrow money for virtually any purpose. However, this does not mean that you will be able to borrow on the same terms that would be available to someone with good credit. Borrowing money after bankruptcy could involve higher interest rates, additional security (collateral), and/or a larger down payment.
Where do I file for bankruptcy?
The proper place to file for bankruptcy is the bankruptcy court in the federal court district and division where the debtor resides or owns property.
Will I be required to attend a court hearing?
A debtor must attend the first meeting of creditors. While not a formal court hearing, creditors may appear and ask questions regarding the debtor’s financial affairs and property. The trustee is required to examine the debtor orally at the meeting of creditors to ensure that the debtor is aware of the potential consequences of seeking a discharge in bankruptcy, including the effect on credit history, the ability to file a petition under a different chapter, the effect of receiving a discharge, and the effect of reaffirming a debt.
What is the filing fee?
The filing fees for consumer bankruptcy cases, at this time (2008) range from $185.00 in a Chapter 13 case to $200.00 in a Chapter 7 case.
How long before the bankruptcy is complete?
The length of time needed to complete a bankruptcy depends upon the type of case filed. In a typical Chapter 7 bankruptcy case, a discharge will granted after the time period allowed for challenging the discharge has elapses, usually sixty days after the first meeting of creditors. This usually means a discharge is granted about four months after the petition for bankruptcy is filed. In a Chapter 13 bankruptcy case, because the bankruptcy plan covers a period of time anywhere from three to five years, the discharge is granted after the plan has been completed.
If I am a co-signer for a debt, how does bankruptcy affect the obligation?
Should the principal borrower file for bankruptcy, the co-signer’s obligation is not affected. He or she may still be held liable on the obligation even if the principal borrower obtains a discharge of the obligation.
What information is required for filing?
When filing for bankruptcy protection, the court will require that you provide the bankruptcy trustee with all information regarding all assets and debts. This means you should be prepared to provide the court with the following:
- The name and complete mailing address of those who you owe, complete with any account numbers, the total amounts due and the amount of monthly payments. If the debt is for a credit card, record the last date you charged on this credit card. If your last charge was less than 90 days ago, you need to write down the amount you charged and the reason for the purchase.
- Your current paycheck stubs; if you are unemployed, including copies of documents showing any other income you receive (e.g., unemployment, worker’s compensation, child support, supplement security income (SSI), social security, retirement, an estate, etc);
- Your mortgage and deed if you own or are purchasing a home or other real property;
- Copies of your car, boat, motorcycle, mobile home or other titles to motor vehicles; and
- Copies of your tax returns (for at least the past three years) and copies of any court proceedings filed against presently filed against you.
Are IRA accounts exempt?
Generally such accounts are not exempt unless allowed by state law.
Are pension plans and 401(k) plans exempt?
Pension plans, 401(k) plans, and other ERISA-qualified plans are generally excluded from the bankruptcy estate. ERISA means the Federal Employee Retirement Income Security Act. Under this act, pension plans, 401(k) plans, and other ERISA-qualified plans are specifically prohibited from being assigned or alienated. What this means to the debtor is that the plan is excluded from the bankruptcy estate and remain the property of the debtor.
Can I be fired from my job for filing bankruptcy?
Employees may not be discriminated against due to a bankruptcy filing.
Can I go to jail if I do not pay my debts?
While the United States Constitution contains no express provision against imprisonment for debt, federal district courts follow the laws of the various states in which they sit wherein imprisonment for debt has been abolished.
Do I have to list all debts and assets?
If you knowingly and fraudulently conceal an asset from the court or fail to list all debts, you have committed a felony and can be fined up to $5,000, imprisoned for up to five years, or both. In addition, the court can deny you your discharge, or dismiss your bankruptcy proceeding.
How often may I file a Chapter 7?
The Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) was signed into law in April 2005 and went into effect on October 17, 2005. This act increased the amount of time before a debtor can file again for Chapter 7 bankruptcy from six years to eight years.
May I discharge alimony payments in bankruptcy?
Alimony payments are generally not dischargeable in bankruptcy proceedings. However, a question occasionally arises over the nature of a particular award – is it alimony, or is it a property settlement? The distinction is important, because a property settlement may be dischargeable in bankruptcy proceedings. The fundamental inquiry then becomes whether the intent of the divorce court and the ex-spouses was to provide support or divide marital property.
In determining whether a debt is in the nature of support/maintenance or whether it is properly characterized as a division of property, courts consider a number of factors.
May I discharge student loans?
Student loans are not dischargeable, regardless of the age of the loan, unless the borrower can establish substantial hardship.
What is a Chapter 13 plan?
Under Chapter 13, all debts are combined and the debtor advises the court how much of the total debt he is able to pay. The court will accept repayment percentages as low as ten percent of the total debt, though plans that propose repaying at least seventy percent are recommended. The court discharges, or legally forgives, that portion which cannot be repaid, and the debtor begins making payments on the remainder. These payments must be finished at the end of three years, though extensions can be granted.
The debtor has flexibility in preparing his plan; the main criterion is its workability. The advantages to the debtor are many, and include the retention of unsecured property, the fact that the consent of the creditors is not necessary, and the fact that one hundred percent paybacks are not necessary. Secured creditors (those who have a lien on certain property), have limited remedies. If they do not accept the plan, they can only repossess a secured item for the present market value of the item. Any unpaid balance on the original contract or promissory note then becomes an unsecured debt. Another advantage is that the mere filing of the petition stops collection efforts by creditors.
Certain debts, however, are not dischargeable under Chapter 13 proceedings. For example, a Chapter 13 proceeding does not discharge alimony, child support, guaranteed student loans, and taxes.
How long before a bankruptcy can be removed from your credit report, and what is involved in having a bankruptcy removed?
After 10 years, the bankruptcy must be dropped from your credit report. The policy of most credit bureaus is to remove Chapter 11 and Chapter 13 cases from credit reports after 7 years to encourage debtors to file under these chapters. If your records are not updated by the credit reporting agencies automatically, you can send a letter of dispute to have the records updated.
What is a “motion to cram-down”?
For confirming a bankruptcy plan, creditors are divided into classes based on the nature of their claims against the debtor. Each class gets the opportunity to vote yes or no on the plan for reorganization, which can be confirmed only if at least one class votes yes. This means a yes vote from more than 50% of the number of creditors and 75% in the total value of claims. If one or more classes vote against the plan, but at least one class votes in favor, the debtor can still get the plan of reorganization approved through the process of cram down. Cram down requires a debtor to prove that the plan is fair and equitable to the non-consenting class and that the plan doesn’t unfairly discriminate against them. If the debtor does so, the plan is crammed down the non-consenting class and approved.