Are you an individual or a small business owner who is looking to learn common types of bankruptcies. In this article we will provide you 3 most common types of bankruptcies and how each one is different and which is best for you.
Bankruptcy is a legal process that helps people, companies, and other entities get rid of their debts. This method helps you repay the debts, offers relief and protection from creditors, and makes the debt-paying process easy for you. Also, bankruptcy is imposed by court order, and the debtor has to file for it.
If you are looking for an easy and effective way to get debt relief, you need to file for bankruptcy. But which bankruptcy is best for you – chapter 7, chapter 11, and chapter 13? Here we have mentioned these bankruptcies in detail to make an informed decision.
Chapter 7 Bankruptcy
Chapter 7 bankruptcy is also known as straight bankruptcy or liquidation. It is the most common type of bankruptcy for individuals. In this case, a trustee appointed by the court oversees the liquidation of your assets to pay all your debts.
Also, all your unsecured debts will be eliminated, such as medical bills and credit cards. However, you will have to pay some of your debts, such as student loans. Under this bankruptcy, you need to pay all taxes, except income taxes.
Based on the state you live in, the court may allow you to keep some of your assets, such as a car, retirement account, and house. Additionally, chapter 7 doesn’t prevent foreclosure but postpones it for a while.
The only way to keep all assets while you still owe the money is to sign another loan agreement and start making monthly payments. However, most people who file Chapter 7 don’t have any assets left that they can sell to pay off the debt.
Pros of Chapter 7 Bankruptcy
The most important advantage of filing for Chapter 7 bankruptcy is that it offers you debt relief. This bankruptcy is ideal for a person who is struggling with high debts. Typically, all your unsecured debts will be discharged through this bankruptcy, including personal loans, credit card debts, and medical bills.
Small business owners, self-employed workers, individuals, and corporations can file for Chapter 7 bankruptcy. You will get debt relief no matter how much you awe, as there is no limit to debt relief. But you are obliged to get credit counseling 180 days before filing for chapter 7 from any credible credit counseling agency.
No Repossessions or Collections
When you file for chapter 7, it will automatically hold or suspend collections or repossessions procedures by your lenders. Your creditor can’t file a lawsuit and can’t make phone calls and wage garnishments.
This is because, after you file, the bankruptcy clerk will take the addresses and names of your lenders and notify them about your bankruptcy. So, there will be no debt collections or repossessions that you need to worry about.
Chapter 7 bankruptcy code allows debtors to keep their properties. This property is considered exempt, which restricts your lenders from selling it in exchange for your debts. While exemptions greatly depend on your state, anything considered essential, such as furniture and clothes, is usually exempt.
If you are planning to file bankruptcy, it will be hard for you to obtain credit. Of course, no one wants to loan money to an individual who is already drowning in debt. Once you are labeled bankrupt, it will become even more challenging to qualify for any type of credit.
But after some time, your credit score will improve, and no creditor will use your bankruptcy against you. At this point, you will improve your financial conditions and records. But the only way to do that is by following each step of the bankruptcy process accurately.
Quick & Cheap Processing
Chapter 7 bankruptcy will stay on your credit history for more than ten years. And the entire bankruptcy process will take four to seven months. The faster you clear your debts, the sooner you will be able to re-establish an excellent credit score.
So, try to complete the process as early as possible. Also, prepare to pay for some charges and fees, like:
- $15 trustee surcharge
- $75 miscellaneous administrative fee
- $245 case filing fee
Cons of Chapter 7 Bankruptcy
Effects on Credit
Chapter 7 bankruptcy will stay on your credit report for around ten years. This will make it challenging to avail credit, which may prevent you from making expensive purchases. Returning to schools, buying a property, and applying for a card will become hard for you. Keep in mind that these problems are temporary.
Not All Debts are Discharged
You can’t discharge every type of debt through this bankruptcy. Some specific debts will remain on your accounts. For instance, you will be responsible for child support and alimony. You also need to pay for student loans, tax liens, and personal injury debts.
Loss of Property
The court will liquidate all your non-exempt properties to give the money to your creditors that you owe. During the liquidation process, the court-hired clerks will sell your luxury items first.
Then, they will sell your vacation home or second car, if any. Check your local laws to understand what type of items you might lose in the process.
Filing for bankruptcy requires money. You need to pay $245 case fees to submit your application for chapter 7 bankruptcy, along with the different types of administrative fees. But you can pay all the fees in four installments during the recommended period.
Keep in mind that the first installment needs to be paid within 120 days after you file the petition. Furthermore, if your income is lower than the federal poverty guideline, your fees can be waived.
Also, you need to pass the means test if your monthly income is more than the average monthly salary of your state. This will help the authorities understand whether you can file for chapter 7 bankruptcy.
Chapter 13 Bankruptcy
Chapter 13 bankruptcy recognizes your debts. The court will design a monthly payment plan so that you may repay all your secured debts and some of your unsecured debts in a set period of time, usually between three and five years.
Your monthly payment will depend on the amount of debt and your income. Not only this, but the court will advise you on a budget and track your spending.
Chapter 13 bankruptcy will also allow you to keep your property and every type of asset. In this case, you can also stop the foreclosure and get some time to pay your missed mortgage payments. Any individual can file for bankruptcy if their secured debt is less than $1,257,850 and unsecured debts are less than $419,275. On top of that, you need to remain updated on your tax filings.
Note that this type of bankruptcy stays on your credit report for more than seven years. You can’t file for bankruptcy again until two years. Lastly, you can’t discharge your tax debts through chapter 13. Instead, you need to pay them through your repayment plan.
Pros of Chapter 13 Bankruptcy
No Means Test
Unlike chapter 7, in Chapter 13, you don’t need to worry about the means test. Therefore, there is no limit of maximum income that restricts you from filing for bankruptcy.
Generally, individuals pick chapter 13 when they have a lot of disposable income as well as significant debts. Therefore, chapter 13 doesn’t require you to pass any test to get bankruptcy relief.
Although you have to pay monthly payments for several years, payments are within your budget. The court designs a realistic payment plan so that you don’t have to take more debts to make the payments.
Most importantly, the interest rate of your new payment plan is much lower than the one you had to pay before. This helps you cut down some of your debts and pay a specific amount. Plus, you need to pay off your debt in a particular duration of three to five years.
No Asset Liquidation
In chapter 7, you have to lose some of your property to pay the amount you owe to creditors. However, in the case of chapter 13, bankruptcy allows you to keep every single asset as long as you make the designated monthly payments at a specific time.
Shorter Life on Credit Record
As you know, your credit history will be impacted by bankruptcy. But chapter 13 has less effect on your credit than chapter 7. This is because it stays on your credit for only seven years. After that, it will be pretty easy to get credit and loans.
Cons of Chapter 13 Bankruptcy
The worst part of Chapter 13 is that the debt burden is still on your shoulders. You still have to think about collecting money to pay your debts so that you can live a happy and peaceful life.
This is because chapter 13 only reorganizes your debts instead of helping you get rid of them. Furthermore, you can’t miss any payments. If you do, you have to face legal problems. The court will design a plan so that:
- You can discharge some of your debts
- You can pay your debt through an affordable repayment plan
When you complete your repayment plan, you may still have to pay some of the debts. These are the secured debts that you can’t discharge by filing a bankruptcy, such as a car loan or mortgage. So, you need to plan how you will pay for them.
Chapter 13 is a challenging and complicated bankruptcy that may cost you more than the chapter 7 bankruptcy. You have to pay for a significant attorney or filing fees.
Chapter 11 Bankruptcy
Chapter 11 bankruptcy offers great benefits to businesses and individuals. It helps you follow a plan so that you can repay your debts while keeping your assets.
Organizations filing chapter 11 bankruptcy don’t put their shareholders’ personal assets at risk, as the business is a separate legal entity.
On the other hand, for a sole proprietorship, the debtors and owners are the same people, so both personal and business assets will be considered in the chapter 11 filing.
Additionally, chapter 11 is the most expensive and complicated of all the bankruptcies, making it feasible for wealthy individuals and businesses.
Pros of Chapter 11 Bankruptcy
Establish Automatic Stay
When you file for chapter 11 bankruptcy, your creditor doesn’t have the authority to reach you. Your lender will have to stop all collection activity, such as commenced and proposed lawsuit. This way, you don’t have to worry about your creditors.
Affordable Debt Reorganization Plan
The authorities will design a repayment plan to reduce your interest rate and the amount you owe. This means that in the end, you will be paying less than what you had to pay before filing the bankruptcy.
Chapter 11 bankruptcy allows you to get rid of the debt without struggling for years easily. Since you will be paying less, your lender may not like this bankruptcy plan. However, you don’t need to think about anyone and plan for your happy future.
No Operational Problems
During the debt reorganization plan, your business will stay operational. You can continue to offer services to your customers. This will satisfy your vendors, suppliers, and stakeholders. Hence, you don’t have to lose your business.
Cons of Chapter 11 Bankruptcy
So, what is the downside of filing Chapter 11? The most unappealing thing is that it takes longer than chapter 7. It is also a complex and costly process, as you need to pay more fees and go through an additional filing process.
Risk of Rejection
Since your debtors can propose a repayment plan, it must be valid and realistic. This plan should be beneficial for your creditors. However, if the plan is not ideal, the court can reject your proposed plan. The court will also cancel the plan if it doesn’t have clauses that can help you return to post-bankruptcy profitably.
Compensation of a Debtor
In chapter 11, the court has the authority to impose restrictions on the compensation of your insiders, such as directors, officers, major shareholders, etc. This will cause trouble for you and your business.
So, is Chapter 13 or 11 Better?
Wondering if chapter 13 or 11 is better? Well, both chapter 11 and chapter 13 give you the opportunity to pay your debts. These procedures offer you ways to keep your assets and design a repayment plan. Chapter 11 is ideal for individuals and businesses whose debts exceed the chapter 13 bankruptcy limits.
Generally, chapter 13 is the better option for sole proprietors and individuals. Keep in mind that a business can’t file for chapter 13 bankruptcy.
Does Chapter 11 Eliminate Debt?
Chapter 11 helps you discharge your debts through a payment plan, but you need to qualify for it. It also has some charges and a designated time period for completion. The appealing part of Chapter 11 is that any business or individual can apply for chapter 11.
Also, chapter 11 will not eliminate your debts; you will have to pay some debts after completing your payment plan.
Is it Better to File a Chapter 7 or 11?
Both bankruptcy options work best for different types of people. They also have some drawbacks that you need to consider. If you have a significant amount of disposable income, you will not be eligible to apply for chapter 7. This way, you automatically have to go for chapter 11.
Chapter 11 is more expensive than chapter 7. It is best for medium to large-sized businesses. But if you have ample assets and a small business or you are a sole proprietor, you can apply for this bankruptcy.
Can a Company Survive Chapter 11?
A business that opts for chapter 11 bankruptcy is usually looking for reorganization, not liquidation. While it’s true that some companies don’t survive the chapter 11 procedure, many also have successfully operated their business afterward. The most popular names that have survived chapter 11 bankruptcy include General Motors and Marvel Entertainment
Filing Chapter 11 bankruptcy gives an opportunity to the company to restructure its debts. This is why many companies who follow all the rules and obligations of chapter 11 emerge stronger than ever after the bankruptcy. So, if you want to survive the chapter 11 bankruptcy, you have to follow the rules and regulations.
Chapter 7, 11, or 13- all the bankruptcy methods have their own drawback and advantages. You need to choose the one that you can easily qualify for. So, for that, make sure to check the requirements and eligibility criteria.
Check whether you can afford the fees. Keep in mind that once you apply for bankruptcy, you will have to meet all requirements and follow the bankruptcy rules.