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Bankruptcy Options

Anxiety. Stress. Fear. Loss of control. If you are considering filing for bankruptcy, chances are you’re at your wits end. Though going through a bankruptcy can feel like a whirlwind, it’s important to override your feelings with important knowledge, and take one step at a time toward getting through the bankruptcy process successfully. There are two primary types of bankruptcy, chapter 7 and chapter 13. Which one you are eligible to file for depends on certain criteria. The comparison below addresses these major questions concerning each one: what is the basic difference between the two, who can file, what is the cost and process, the time it takes to complete the process, and the effects on your credit.

What’s the difference between the two?

Chapter 7 bankruptcy is best described as a liquidation of assets, or the ‘get rid of all the debt plan.’ With Chapter 7 bankruptcy, the bankruptcy trustee cancels all your debts, by using any assets that you have to turn into cash that can be paid to your creditors. On the other hand, Chapter 13 bankruptcy is literally a ‘reorganization’ of debts. Rather than using property or any secured asset to liquidate, income level is intricately assessed to figure out a payment plan to repay all primary debts, usually over a time span of 3-5 years. Debts that are worked into this payment plan are prioritized, beginning with any unpaid child support, and secured debt like your house or car. If there is disposable income left after that, it generally goes toward unsecured debt.

Who can file?

Not just anybody can file for bankruptcy. In order to qualify for chapter 7, you cannot have filed for bankruptcy within the last 6-8 years. Further, you also have to pass a means test that verifies that your income is low enough. To gage whether or not your income qualifies, the average of 6 months of income is measured against the median income in your state for a family of your size. If your income is low enough and your debt burden excessive enough, you may qualify for Chapter 7. Under new laws, disabled veterans who accumulated debt during active duty, or those who have debts that were incurred while operating a business usually qualify for Chapter 7.

If your income exceeds that which qualifies for Chapter 7 in your state, you may qualify for Chapter 13. Also, in order to file for bankruptcy, you must first receive approved credit counseling from an approved agency. Regardless of which type of bankruptcy you end up qualifying for, there are certain red-flags that must be avoided if you do not want your case to be dismissed by the court. Avoid the following for at least one year to avoid having your case thrown out of the court:
  • Accumulating debts from luxury items when you clearly had no way of paying them off.
  • Lying about some of your debts or income on a credit application.
  • Unloading assets to family or friends in order to hide them from the court.
  • Concealing property or money from your spouse during a divorce proceeding.
And, as always, you must sign bankruptcy papers under ‘penalty of perjury’ swearing that everything in them is true. If the court discovers any intentional inconsistencies, your case may be dismissed or investigated for fraud. When filing for bankruptcy, honesty is the best policy.

What is the Cost and Process?

As of January 2010, the initial filing and administration fees for a Chapter 7 usually runs around $299, while Chapter 13 is $274. Though their fees are similar, the process is different.

To file for Chapter 7, you need to fill out a petition, and other forms that ask you to describe your income and monthly living expenses, your property, and your debt. You also need to report the property that you believe you are allowed to keep in Chapter 7 based on your state. These are then filed with the bankruptcy court in your area. Most states allow you to keep a certain amount of equity in your home, household furnishings, social security payments that haven’t been spent, items that are essential for your job, and your car if it is deemed a necessity. You also need to report information about property you’ve owned and/or money that was spent in the previous year, and property that was sold or given away during the previous two years.

If you qualify for Chapter 13 and have completed credit counseling with an approved agency, the next steps will be to figure out a viable repayment plan. In reality, there is no standard repayment plan, but many courts have developed unique plans. First, debts are prioritized, with those at the list paid first. Generally, these include late child-support payments, secured debts like your mortgage or car, and certain taxes. Finally, if there is any discretionary income leftover after these payments have been figured in, unsecured debts, like credit cards, are the next to be paid. The length of these payment plans is generally 3-5 years depending on the debtor’s income.

If for any reason, the debtor fails to make a payment due to unexpected hardship, the bankruptcy trustee can modify the payment plan to match your new circumstances. However, if any payment would pose undue hardship, as in the case of severe hospitalization, a bankruptcy judge might choose to discharge your debts.

How long does it take and how will my credit be affected?

The entire process for Chapter 7 generally takes 4-6, while Chapter 13 is a payment plan typically between 3-5 years. If a consumer has no other option but to file for bankruptcy, his credit is most likely in disrepair anyway and may even be as harmful as a bankruptcy. The scar of bankruptcy stays on a consumer credit report for 10 years with a Chapter 7 and 7 years for a Chapter 13. Even though bankruptcy takes a hard hit to your credit score, it also provides a clean slate from which to rebuild credit without the same debt burden as before. Bankruptcy should be the last option, but when used correctly it can be a powerful tool to get consumers back on their feet.
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