There are pros and cons to most decisions. Bankruptcy is no exception. We have many different types of bankruptcy because the law recognizes that there are many different types of debt problems.
When does Chapter 7 make sense?
Chapter 7 is best suited for debt problems where you’ve had enough and you’re ready to walk away. Both individuals and corporations can file for Chapter 7 bankruptcy. It’s known as “liquidation bankruptcy” because the trustee will liquidate non-exempt assets. Whatever money the trustee can recover from liquidation will be used to pay your creditors.
What is liquidation? Will I lose everything?
The word “liquidation” sounds scary. You might be asking “but how will I survive if the trustee takes everything?” In a personal bankruptcy, also known as “individual bankruptcy” there are exemptions that allow you to protect a certain amount of assets. California has very generous exemptions and in most Chapter 7 cases, the debtor (person filing bankruptcy) gets to keep all of his or her assets and walk away from the debt.
What’s the difference between a personal and corporate Chapter 7 bankruptcy?
In a corporate Chapter 7, there are no exemptions and the trustee will step in to liquidate the assets of the company (if any) in an orderly fashion. This can be beneficial in situations where the owner(s) of the corporation do not want to liquidate the assets themselves. It can also protect the owners from claims of fraudulent transfer from its creditors.
What if there aren’t enough exemptions to protect all of my assets?
If we can’t protect all of your assets, there are three options. 1. File for Chapter 7 bankruptcy and let the trustee sell the unexempt asset. 2. File for Chapter 7 and work out a deal with the trustee for you to buy back the unexempt asset. 3. File for Chapter 13 bankruptcy.
How does Chapter 13 work?
In a Chapter 13 bankruptcy, instead of the trustee taking the asset, you make a monthly payment that’s equivalent to the unexempt asset. So, let’s suppose you have a vehicle that’s worth $12,000. Let’s also assume that in a Chapter 7, the trustee would be entitled to sell or “liquidate” the vehicle. Instead of having the trustee take the car, you can file for Chapter 13 and pay $200 per month for 60 months ($200×60=$12,000).
Chapter 13 monthly payments can also be determined by taking your current income and subtracting your expenses.
Do I earn too much money to file for Chapter 7?
The other circumstances where you may need to file for Chapter 13 bankruptcy is if your income is too high. How much income is too high? That depends on your particular situation and what expenses we can use to offset your income.
Some examples of offsets:
- Your family size– the more people that depend on your income, the higher the allowance
- Mortgage– mortgage payments can be used to offset your income. So, in many circumstances, it’s possible to have a fairly high income and still qualify for Chapter 7 due to mortgage payments
- Car payments– similar to mortgage payments, your car payments and operation expenses can be used to offset your income
- Medical expenses– medical and dental expenses can help qualify you for Chapter 7 bankruptcy
- Insurance– term life insurance, medical insurance and some other insurances
- Charitable contribution– being generous can actually help you qualify for Chapter 7
- Taxes– owe back taxes? Owing Uncle Sam may make it easier to qualify for bankruptcy
There are many others. So, as you can see, it’s not enough to know how much you earn but we also need to carefully evaluate your situation to determine what offsets we can use to qualify you for Chapter 7 bankruptcy. These same offsets may be used to reduce your Chapter 13 payments.
Some strategic reasons for filing Chapter 13
In some cases, it makes more sense to file for Chapter 13 (even if you qualify for Chapter 7) for strategic reasons. Here are some circumstances:
- You’re behind on car/mortgage payments– If you want to keep your car and/or home and you’re behind on payments, Chapter 13 gives you up to 60 months to make up or “cure” the missed payments.
- Reduce interest rate on your car– If you have very high interest rate on your vehicle, Chapter 13 may be advantageous since we can usually reduce the interest rate to around 4 – 5%.
- Taxes– similar to missed mortgage payments, you’ll be given up to 60 months to repay the IRS/FTB.
- Student loans– in general, you’ll still be responsible for your student loans even after bankruptcy. However, in a Chapter 13, we can propose a monthly payment that you can reasonably afford for the duration of the Chapter 13. This can be a strategic way to deal with aggressive collection efforts.
- Continue operation of a business– this is a very complicated area but in some circumstances, the trustee may demand that you stop operating our business if you file for Chapter 7 bankruptcy. If continuing to operate your business is critical, it may make sense to file for Chapter 13.
The word “bankruptcy” can feel very scary and overwhelming. However, bankruptcy law is designed to give good people a second chance at living debt free. There are many strategic ways to use the bankruptcy law to achieve your goals – living debt free, saving your assets from creditors, and of course, gain some peace of mind. Chapter 7 of Chapter 13 may provide this much needed relief.