Understanding Different Types Of Bankruptcy Chapters

The purpose of declaring bankruptcy is to allow a person or company to absolve their debts to get a fresh start; while repaying creditors as much as possible through distribution of the debtors finances and assets (some exemptions apply). Bankruptcy legally discharges a person or business of their past debts regardless of whether they were paid in full, and also protects the debtor from being harassed by any further collection attempts on said debts.

In the United States of America, bankruptcy is governed primarily under Federal jurisdiction through the Bankruptcy Code; located in Title 11 of the United States Code. State law can get involved at times however, so while some generalizations can be made about the what's involved - the actual specifics may change a little from state-to-state. Regardless of state particulars, bankruptcy cases are always filed in United States Bankruptcy Court.

Bankruptcy Chapters:

There are currently six distinct types of bankruptcy chapters under the United States Bankruptcy Code, with Chapters 7 and 13 the most common types for individuals.

Chapter 7

Chapter 7 is also called "straight" or "liquidation" bankruptcy. A Chapter 7 bankruptcy will typically required the debtor turn over their assets to a trustee, which are then sold to raise funds that are used to pay down the related debts. What particular assets can be sold varies from state-to-state, certain exemptions may be made such as a car, a home, and professional equipment such as tools that may be required for the debtor to work.

When a petition for a bankruptcy is filed, what is referred to as a bankruptcy estate will be created. The debtors assets (minus exemptions of course) are moved to this estate to be liquidated. A trustee will be appointed by the court to deal with this estate including distribution to creditors owed.

Normally it takes approximately three months after filing a Chapter 7 before what's known as a discharge is entered into the court. This is an order that stops creditors from any further collection attempts on non-secured debts that were owed on or before the original Chapter 7 filing date.

The most common types of debt that are discharged through Chapter 7 bankruptcies include:

  1. Credit card balances
  2. Overdue medical bills
  3. Unsecured personal loans
  4. Liability resulting from some civil actions
Not all debts can be included in a bankruptcy, especially money owed to the government and orders from family courts. Debts that are typically not discharged include:
  1. Federal student loans
  2. Taxes
  3. Child and spousal support
  4. Government fines and penalties
Chapter 13

Chapter 13 bankruptcies are kind of like a government organized debt management program for individuals. To qualify, a debtor must have secured debts totalling no more than about $800K, and unsecured debts less than $270K - and generally must still be earning income to make this an acceptable alternative to Chapter 7.

Under a Chapter 13 an individual keeps their assets instead of turning them over to an estate, but must make regular payments to a trustee, who in turn distributes the money to owed creditors. These payment plans typically last from 3 to 5 years, with any remaining debt discharged after that. Generally, a Chapter 13 will not be permitted if the creditors would otherwise receive more under a Chapter 7 arrangement.

What happens to your credit and finances after bankruptcy? See the effects of bankruptcy.