In the last post I talked about the basics of bankruptcy. In this post, I’m going to get into the specifics of Chapter 7, which is one of the most common filings in the U.S. for consumers. There’s a lot of information to cover, so I’m going to jump right in.
What is Chapter 7 Bankruptcy?
Chapter 7 bankruptcy is a liquidation process whereby a debtor surrenders his/her nonexempt property to a bankruptcy trustee. The trustee is assigned by the courts and will liquidate the assets and distribute the proceeds to the debtor’s unsecured creditors. It does not involve creating a repayment plan like a Chapter 13 would. With Chapter 7, you can lose property, but in return, you are able to discharge many of your debts in order to start over.
Chapter 7 Eligibility Requirements
The debtor must be an individual, a partnership, or a corporation or other business entity in order to qualify for a Chapter 7. However, since this is a personal finance site – and it’s mostly individuals who file a Chapter 7 – I won’t be talking about the finer points of filing if you’re a business owner. All the information listed throughout the rest of this article will pertain to individuals only, though some of the information does overlap.
Prior to being allowed to file, individuals will be subject to the ‘means test’ if their current monthly income is more than the state median. This test is used to determine if there is any abuse taking place, which would disqualify the debtor from filing Chapter 7. Abuse is assumed if the debtor’s total monthly income over 5 years is more than 1.) $10,950, or 2.) 25% of the debtor’s non-priority unsecured debt – as long as that amount is at least $6,575. Unless the debtor can successfully show cause for the excess income, the case will either be reverted to a Chapter 13 (with the debtor’s permission) or it will be dismissed.
There are several situations in which a debtor would not be eligible for a bankruptcy, much less a Chapter 7.
- If the debtor fails to comply with any of the courts directions and/or has had a bankruptcy dismissed within the last 180 days;
- The debtor fails to acquire approved credit counseling 180 days prior to filing – except in certain situations when the court deems the case to be an emergency;
- If the debtor voluntarily dismisses a previous case after creditors have sought relief from the courts to recover property they maintain liens on.
One of the primary purposes of a Chapter 7 bankruptcy is to discharge certain debts, which allows debtor’s to start fresh. While the debtor has no liability for any debts that are charged off, the right to a discharge is not absolute, and some types of debt cannot be discharged. It’s also relevant to note that a discharge does not release a lien on property.
How It All Works
The entire process should begin with you consulting an attorney and making sure you’ve exhausted all other possibilities before reaching this point. The Bankruptcy Code has made filing a bankruptcy much more difficult for a reason, and there’s a lot of hoops to jump through in order to get this done. Again, bankruptcies should only be a last resort.
If you’ve reached the bankruptcy bridge, your next step will be to file a petition with the bankruptcy court in your area. In addition to the petition, there are several other documents a debtor must file. I’ll list them here for you; however, some are comprehensive and may require help from both an attorney and a tax advisor. Be sure to seek help from either if you’re filing and unsure of what to do!
- schedules of assets and liabilities
- a schedule of current income and expenditures
- statement of financial affairs
- a schedule of executory contracts and unexpired leases
- a copy of the most recent tax return, as well as tax returns filed during the case
- certificate of credit counseling from an approved counseling agency
- evidence of payment from employers, if any, received 60 days prior to filing
- a statement of monthly net income and any anticipated increase in income or expenses after filing
- a record of any interest in federal or state qualified education or tuition accounts
- a list of all creditors and the amount and nature of their claims
- the source, amount, and frequency of income
- a list of all property owned
- a detailed list of monthly living expenses (i.e. food, clothing, shelter, utilities, taxes, etc.)
***Note*** A husband and wife may file a joint petition or an individual one; however, if they are filing jointly, both parties are responsible for providing the required documentation in order to file.
In addition to all of these documents, the courts must charge some fees. At last record, they charge a $245 case filing fee, $39 miscellaneous administrative fee, and a $15 trustee surcharge. In most cases, these fees must be paid to the clerk of the court at the time your case is filed. However, in certain situations the court will grant permission for the debtor to pay the fees in an installment payment. The number of installments are limited to four and the final payment must be received no later than 120 days after filing. In certain hardship situations, the courts have extended the last installment to 180 days, but as a general rule, they will keep it at 120 days. It is very important to understand that if you default on these fees, your case could be dismissed.
The courts do have the ability to waive the fees altogether; however, they will only consider this if the debtor’s income is less than 150% of the poverty level – as defined by the Bankruptcy Code. Again, this is where an attorney would be helpful to determine if you fall within this category.
Amongst the schedules debtors must provide with their petition, the individual is also required to file a schedule of “exempt” property. The Bankruptcy Code does allow debtors to protect some property from creditors because it is exempt under federal or state bankruptcy law. Many states have taken advantage of the provisions in the Bankruptcy Code that allow them to adopt their own exemption laws in place of the federal exemptions. In these cases, state law will override federal law. However, there are some states that will allow debtors to choose between federal and state exemption packages. You’ll want to know the exemptions of your specific state – and whether or not you have a choice – before making a decision, of course.
When you file a petition under Chapter 7, it essentially stops most collection actions against you and your property; however, it doesn’t stop everything and it may only be effective for a short period of time. As long as the “stay” is in effect, creditors are not supposed to initiate or continue lawsuits, wage garnishments, or harass you with collection calls. All of the creditors you provide a name and address for are notified be the bankruptcy clerk so it is important that you include them all when filing your petition.
Once you’ve filed and your creditors have been notified, the case trustee will hold a meeting of creditors about 20-40 days after the initial filing. During this meeting, the debtor is put under oath and asked questions by both the trustee and the creditors regarding financial standing and any property owned. It is important that debtors cooperate with the trustee as they will be reporting back to the court on whether or not they feel the case should be presumed abusive – and remember, that will get your case dismissed or reverted to a Chapter 13.
This meeting is also the courts way of making sure the debtor is aware of the potential consequences of seeking a Chapter 7 – including the consequences to credit history, the ability to file other Chapters, or the effects of receiving a discharge and/or reaffirming debt. But, to make sure that judges presiding over the case remain objective, they are prohibited from attending the meeting of creditors, so it is just the trustee and creditors who will be in attendance.
In Part II of Chapter 7, I’ll delve into the role of the case trustee and we’ll also look at discharges, but with Chapter 7 being one of the most commonly used bankruptcies, there’s a lot of information to digest.
Stay tuned for the next installment!