Without the protections of bankruptcy, creditors could obtain judgments, garnish wages, and seize assets to enforce collection actions against you, leaving you without the money needed to live.
The US Bankruptcy Code provides a safety net for consumers who encounter a long-term financial crisis. When you cannot keep up with your current debt payments and do not anticipate being able to turn things around in the near term, bankruptcy can prevent financial ruin.
However, you must meet strict requirements to qualify for Chapter 7 because the petition does not require you to repay qualifying debts. The process does allow you to keep some property such as your home, vehicle, and basic household goods, preventing you from becoming destitute after bankruptcy.
Here is what you need to know about Chapter 7 Bankruptcy before you file.
- You must qualify for Chapter 7 before you can file.
- Chapter 7 does not require you to repay creditors, but you must sell all non-exempt assets, which could endanger your home or vehicles used for transportation.
- Chapter Bankruptcy does NOT wipe out all debts.
- Even though you cannot pay creditors, you must pay to file for bankruptcy in addition to counseling courses.
- During the bankruptcy, and until your debts are discharged, a trustee will scrutinize all of your assets and household budget items to ensure you have fully disclosed your financial condition.
The Basics of Chapter 7 Bankruptcy?
Chapter 7, often called “liquidation bankruptcy”, does not require you to repay any portion of the qualifying debts owed to creditors. A bankruptcy trustee evaluates your financial circumstances, and the courts will require you to sell any non-exempt assets for debt repayment and then discharge the remaining qualified debts.
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The Key Distinctions Between Chapter 7 and Chapter 13
Individual bankruptcy comes in two forms: Chapter7 or Chapter 13.
Chapter 7 bankruptcy protects consumers with limited income and little or no assets. The courts allow you to keep some property to prevent destitution. However, you must meet certain income requirements or pass a means test that takes into account your income and expenses in order to qualify for Chapter 7. The process typically takes no more than six months to complete, and the bankruptcy remains on your credit report for ten years, making it extremely difficult to obtain any new credit during this period.
Chapter 13 bankruptcy, on the other hand, protects consumers who have property they want to keep and who earn enough to repay creditors at least some of their existing debt balances. The bankruptcy court will oversee the repayment plan, which usually lasts for five years before qualifying debts are fully discharged. A chapter 13 bankruptcy remains on your credit file for seven years and will make it extremely difficult to obtain new credit during this time.
Who is Eligible for Chapter 7 Bankruptcy?
You must qualify for debt relief under the Chapter 7 bankruptcy code. The first parameter is income. Earning less than the median income in your state based on your household size, will qualify you to file a Chapter 7 bankruptcy petition.
When your income exceeds your state’s median income, you must then pass the means test, which considers your income, debt levels, and monthly expenses. The process is designed to prevent consumers who can repay creditors at least a portion of what they owe from receiving an immediate discharge of their debts.
The desire to keep assets could be another reason to avoid filing for Chapter 7 bankruptcy relief. Owning a home with more than $25,150 in equity or a vehicle worth more than $4,000 could mean you are better off avoiding Chapter 7, which could require you to sell your property to pay debts.
The IRS posts forms online to help you decide if you will qualify for Chapter 7. The Statement of Monthly Income will verify if you meet the income test in your state. The Means Test Calculation gives you the factors needed to calculate to see if you can pass the means test.
Can You Keep property in Chapter 7?
The bankruptcy courts divide assets into two categories: exempt and non-exempt assets.
You are allowed to keep exempt property. When filing a joint petition, you can claim an exemption for each person, which will double the exemption allowed in most cases.
What are Exempt Assets?
You can file a bankruptcy petition using either federal or state exemptions. Your state of residence will determine your options for claiming exemptions if you opt to file using state exemptions.
Federal exemptions allowed under Chapter 7 Bankruptcy include the following:
- Homestead exemption protects up to $25,150 in equity for your primary residence
- A vehicle valued up to $4,000
- Jewelry valued up to $1,700
- Household goods and furnishings up to $13,400
- Tools you use in your employment up to $2,525
- The value of a whole life insurance policy up to $13,400
- The value of your retirement accounts
- Alimony and child support
- Public assistance or social security benefits
- You must submit a certificate of completion of credit counseling through an approved credit counseling agency with the petition. You must also complete a second bankruptcy counseling course before the final discharge.
- Wildcard exemption, you can use to protect any asset of your choice valued up to $1,325
State exemptions allowed under chapter 7 bankruptcy vary by state. You can view the exemptions allowed under chapter 7 in your state here.
How Does Bankruptcy Treat Secured Debts?
Debts fall into two categories secured and unsecured.
Secured debts mean the lender can take back the asset if you can no longer make payments on the debt. Unsecured debt is not secured by a specific asset or property.
Chapter 7 bankruptcy will only discharge qualified unsecured debts such as medical bills, personal loans, or credit card debt. You are not given time to catch up on late payments on secured debt like your home or vehicle. When you are behind on payments but want to keep your assets, Chapter 13 bankruptcy can delay foreclosure or repossession, giving you time to bring the account current.
What Debts Will the Courts Discharge?
Only debts incurred before the bankruptcy filing qualify for a discharge. If you borrow money after you file, but before the end of the bankruptcy proceeding, you remain responsible for those bills.
Debts a judge can discharge in Chapter 7 bankruptcy include:
- Outstanding credit card balances
- Medical debt
- Accounts owned by a collection agency
- Delinquent utility bills
- Deficiency balances after a repossession or foreclosure
- Business debts you personally guaranteed
- Delinquent lease agreements such as past-due rent
- Existing Judgments
What Debts Remain After bankruptcy?
Bankruptcy does not discharge all types of debts. Chapter 7 bankruptcy will not address secured debts. Some debts have never qualified for a discharge, while others can be forgiven under certain circumstances. In most cases, you will continue to be responsible for the following financial obligations even after filing chapter 7 bankruptcy:
- Child support and alimony
- Student loans
- Money owed due to criminal activity
- Most tax debts
- Money owed due to a DUI or DWI
- Debts incurred due to fraud
- Obligations due to malicious acts
- Bills arising from luxury purchases (defined as purchases over $725 within 90 days of filing)
- Debts not included in the bankruptcy petition
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The Process of Filing Chapter 7 Bankruptcy
The first step is to complete a court mandated and approved bankruptcy course through an approved credit counseling agency. You must submit a certificate of completion when you file your petition. You must also complete a second bankruptcy counseling course before the final discharge of your debts.
When you file for Chapter 7 bankruptcy, you must first show that you qualify to file and then prove you cannot repay creditors. The courts have a list of required forms designed to assess your financial situation and ability to repay your debts.
Information required includes:
- A list of all the debts (both those you want to include and those you cannot)
- A record of all your assets.
- Income verification
- Monthly expenses
- Details of any property you own, including amounts owed and ownership details
- Details of any pending lawsuits
- Creditor repayment history
- Bank statements
- Tax returns.
After filing the bankruptcy petition, the court trustee will set up a meeting with your creditors. You must attend the meeting, and creditors can ask questions about your financial circumstances.
If the trustee determines that you have non-exempt property such as your home, vehicles or other non-exempt assets, they could sell it to make partial payments on your debt. Creditors get 60 days to file an objection and provide grounds to support the opposition. If no one objects and you have no property to sell, the proceedings could close in a few months.
How Much Does It Cost to File Chapter 7 Bankruptcy?
You must pay a court filing fee of $335, an administrative fee, and attorney fees. The two required bankruptcy courses will cost between $25 and $100 each. Attorney fees are the biggest cost you will incur. However, filing without an attorney has a very low success rate. You can budget between $1,500 to $3,000 for legal fees, depending on the state in which you live and your case’s complexity.
How Long Doe the Chapter 7 Bankruptcy Process Take?
It typically takes four to six months from when you file a chapter 7 bankruptcy petition until the time your debts are fully discharged.
Does the Court Consider Spousal Assets in Chapter 7?
State laws follow either common law or community property law. Common law states consider property ownership, separately. If you hold a title to property, you own the property. The courts will treat jointly held property as split ownership. You own half, and your spouse owns half. Community property states treat property owned by the household as joint property, regardless of how it is titled. For example, if you live in a community property state, and your spouse owns a car and you file bankruptcy, the petition must include the vehicle as an asset.
Every state allows you to file as an individual or as a couple.
Does the Court Consider Spousal Income in Chapter 7?
If your tax filing status is Married-Filing Jointly, you must include your spouse’s income on the bankruptcy petition, even if you file as an individual. The only exception is if you live separately and maintain different households.
The Impact of Chapter 7 Bankruptcy on Your Credit?
Filing bankruptcy means creditors go unpaid, which will hurt your credit. However, if you have missed payments or have existing judgments prior to the bankruptcy, you may not see a significant decline in your score.
The notation of chapter 7 bankruptcy remains on your credit for ten years, and you will have to acknowledge that you filed bankruptcy anytime any you are asked on application to open new lines of credit, when applying for a job or when opening new utility accounts. During this ten year period, it will be extremely difficult if not impossible to open new credit accounts like personal loans or credit card accounts and obtaining a new mortgage or car loan will be extremely difficult, or come with unfavorable terms and high interest rates.
When is Chapter 7 Your Best Option?
Chapter 7 is best suited for consumers who do not earn enough to repay debts and do not have many assets the courts could use to pay back creditors. Having a high level of debt for your income and few options to improve your financial circumstances could leave you with few choices outside of Chapter 7 bankruptcy.
Steps You Should Always Take Before Filing Chapter 7 Bankruptcy
- Stop paying creditors – You will need to save money to cover bankruptcy costs. The courts could penalize you if you make any large payments to a single creditor.
- Don’t add any new debt—large purchases, new credit, or running up balances before filing could disqualify debt due to fraud. The look back period is 90 days for third parties and one year for a debt owed to family and friends.
- Avoid transferring assets – Retitling assets out of your name is a red flag and could disqualify your bankruptcy petition. The bankruptcy trustee has a two-year look back period for asset transfers.
- Gather records. To make the most of your bankruptcy filing, you must attest to things truthfully. The best way to accomplish this is by gathering records of what you own and what you owe to complete the bankruptcy paperwork accurately.
- Leave retirement accounts and home equity in place – The courts provide exemptions that protect particular property. Retirement accounts and home equity are a few of the protected assets that you should not liquidate to repay creditors because you can keep them after filing for chapter 7 bankruptcy.
What Are Your Options if You Do Not Qualify for Chapter 7 Bankruptcy?
Inertia might cause you to convert your Chapter 7 petition to a Chapter 13 automatically and still take the bankruptcy route. However, if your petition for a chapter 7 bankruptcy is denied, and you are forced to file under chapter 13, enrolling your debts in a debt settlement program may be a better option for you as you will end up paying back a portion of your debt under a chapter 13 bankruptcy and still carry the burden of Bankruptcy being reported to your credit file for 10 years.
If you cannot qualify for chapter 7 bankruptcy, and are current on your mortgage and car loan, debt settlement might be a better alternative, get you out of debt sooner and help you begin the process of recovering your credit score much faster.
Debt settlement allows you to repay a portion of your debt to creditors when you face a financial hardship. Debt negotiators will negotiate with your creditors on your behalf who may accept less than the full amount owed to resolve the outstanding debt.
Debt Settlement allows you to pay back some of what you owe, like you would in a chapter 13 bankruptcy repayment plan, be out of debt much sooner and avoid the negative impact of bankruptcy being reported on your credit file for 10 years.
What is Chapter 7 bankruptcy?
Chapter 7 bankruptcy wipes out debt without requiring the repayment of your debts to creditors if you qualify. The court reviews your income, debt levels, and assets before deciding what bills qualify for a discharge. You may have to sell assets and make a partial repayment to creditors before a judge discharges your debts. Chapter 7 only addresses unsecured debts such as credit card bills.
Will Chapter 7 wipe out all my debt?
Chapter 7 can eliminate most debts not tied to a property through the bankruptcy process. The most common obligations include credit card bills, medical debt, payday loans, and personal loans. Bankruptcy will not wipe out all debts. It will not address loans attached to assets such as your home. Other debts that remain include student loans, child support payments, and tax obligations.
How long does it take to eliminate debt in Chapter 7?
From the time you file until the judge discharges your debt is four to six months.
Can I keep my residence if I file Chapter 7?
The bankruptcy code allows you to hold certain assets that prevent you from becoming destitute. You may keep certain assets such as your home, car, and household goods as long as the value or equity is within the limits of federal or state exemptions.
Will Chapter 7 Bankruptcy ruin my credit?
Missing payments or having maxed out credit cards, already negatively affects your credit score. Bankruptcy could further erode to your credit and remains on your credit file for ten years, which is the longest of any debt relief solution. You will also have to attest to filing bankruptcy on credit applications forever.
Which is better: Chapter 7 or Chapter 13?
It is harder to qualify for Chapter 7 because you must meet income requirements or pass a means test. If you don’t qualify for Chapter 7, you must file Chapter 13 or choose another route to achieve debt relief.