The most common question asked by people contemplating filing bankruptcy is, “What type of bankruptcy should I file?”. Debtors should consider Chapter 7 vs Chapter 13 bankruptcy. The debtor has two options: Chapter 7, which discharges your debts, or Chapter 13, which reorganizes your debts.
Issues That Help Determine if you should file Chapter 7 vs Chapter 13 bankruptcy.
- Are you in foreclosure?
- Do you owe back taxes?
- Are you behind on your car loan?
Income of the debtor is the most important factor in determining Chapter 7 vs Chapter 13 bankruptcy. A debtor’s average household monthly income for the previous six months must be at or below the median income of a similar-sized household for the debtor to qualify for Chapter 7. If they are above that income level, they may still qualify for a Chapter 7. However, passing The Means Test is the first step towards qualification.
The Means Test takes into account different monthly expenses deemed necessary by the court. These expenses include mortgage loans, car payments, taxes, insurance and child care. The Means Test is complicated; therefore, we recommend you seek legal counsel before attempting the test. If you do not pass, Chapter 13 will be your only personal bankruptcy option.
Some debtors file Chapter 13 even though they may qualify for Chapter 7. There is no income requirement in Chapter 13, although you will need consistent monthly income to afford the monthly payments. Inability to make monthly payments will result in a case dismissal.
Assets and Their Effect on Bankruptcy
Assets can determine which chapter is best. While a debtor may qualify for Chapter 7, they may own assets they cannot fully protect from seizure by the bankruptcy estate. Assets that cannot be fully exempt must either be paid for (up to the value that is non-exempt) or surrendered to the bankruptcy estate.
The court requires that you list all of your possessions, which can range from furniture to your car. You must list a replacement value for every asset to give the courts an idea of what your assets are worth. An example of this would be listing the value of your car found on a website like NADA or Kelley Blue Book.
Upon listing the items and the replacement value, you then need to look at your exemptions and see what can be protected. Every state has a list of exemptions and you will normally use the exemptions from the state that is your residence.
If you find that your property cannot be fully exempted because it is worth too much, you will have a decision to make. Most trustees require buying back non-exempt property or else surrender the property. If you are in a Chapter 7, the asset will have to bought back by the debtor within a short period of time that can range anywhere from three months to a year. This can be difficult if the value of the asset is high. In those instances, filing a Chapter 13 might be easier to handle. The payoff period in a Chapter 13 is normally 3-5 years.
If you don’t have any assets or your exemptions are sufficient to protect your property, then Chapter 7 is the best option you.
Foreclosure and Its Effect on Your Bankruptcy
Another common reason why people file bankruptcy is foreclosure. If you are looking to surrender your home and give up responsibility for the debt, then file a Chapter 7. However, many debtors want to keep their home despite facing foreclosure. Chapter 13 is the more effective way to keep your home. In fact, money owed to the mortgage company in arrears can be paid back to the mortgage company. Chapter 13 and its duration make this a much better choice.
If your vehicle subject to repossession, then you should file a bankruptcy beforehand. The chapter you file will be based on when you can catch up on your unpaid balance. Can you catch up during the short length of a Chapter 7? However, there are certain things you can do in a 13 that you can’t do in a 7, such as cramdowns and reducing the interest owed or, in rare situations, the principal balance. As a result, Chapter 13 is still a great option for debtors in these situations.
If you owe back taxes, you should consult a bankruptcy attorney prior to filing. Your taxes may be dischargeable in a Chapter 7 or if not, your payments can be lowered in a Chapter 13 as the interest rate is tolled.
In sum, Chapter 7 is a quick process that will discharge debt while Chapter 13 is a lengthy process that will reorganize your debts without losing assets. Filing a bankruptcy Chapter 7 vs Chapter 13 will always depend on the individual debtor situation.