The purpose of bankruptcy law is to provide a framework in which both individuals and businesses can resolve debt obligations they cannot otherwise meet. The term “bankruptcy” in the popular vernacular is used broadly, but in fact there are many types of bankruptcy proceedings.
The truth is that other attempts at debt resolution, like loan consolidation with financial counseling should be tried first, because a bankruptcy proceeding is the last resort. The action will destroy the individual’s credit and most often results in a business closing down completely.
Bankruptcy Types Divided into “Chapters”
The types of bankruptcy actions available in the United States are described as “chapters,” with each taking a different approach and being available to different types of debtors. The most common chapters are:
- Chapter 7 has been designed to completely discharge all debts via liquidation of assets and is open to both individuals and businesses.
- Chapter 11, on the other hand, is a reorganization or rehabilitation of a business. Under some circumstances, individuals may file for Chapter 11 if their debts are substantial and their assets considerable.
- Chapter 12 bankruptcy is specific to fishermen and family farmers, and offers a mechanism for rehabilitation.
- Chapter 13 offers individual debt rehabilitation or reorganization. It does not completely discharge the existing debts, but rather restructures them to allow for a program of repayment. This option was designed for people who have a regular income.
Of these chapters, the most common is Chapter 7. All assets are surrendered and liquidated, with the proceeds distributed to the creditors.
Some Property is Exempt from Bankruptcy Liquidation
Federal law, and the law is most states provides an exemption for specific types of property, for instance the debtor’s primary residence. Exemption laws do vary widely from state to state, however.
In the majority of cases, personal effects, household goods, and clothing are protected, as are the person’s home and automobile if the payments are current. In some states, the person filing for the bankruptcy can choose which exemptions will apply, state or federal.
States that allow for the use of federal bankruptcy law include: Arkansas, Connecticut, Washington, D.C., Hawaii, Massachusetts, Michigan, Minnesota, New Jersey, New Mexico, Pennsylvania, Rhode Island, South Carolina, Texas, Vermont, Washington, and Wisconsin.
States that do not allow for the use of federal exemptions in bankruptcy cases are: Alaska, Arizona, California, Colorado, Delaware, Florida, Georgia, Idaho, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maine, Maryland, Mississippi, Missouri, Montana, Nebraska, Nevada, New Hampshire, New York, North Carolina, North Dakota, Ohio, Oklahoma, Oregon, South Dakota, Tennessee, Utah, Virginia, West Virginia, and Wyoming.
Why Would A Person Opt for Chapter 7 Bankruptcy?
Although there are serious consequences in filing a Chapter 7 bankruptcy proceeding, it does offer immediate relief and will eliminate large, unsecured debts immediately. Creditors can no longer engage in collection actions once the bankruptcy has been filed unless they have specific court permission to do so. The most common reasons cited for going forward with a Chapter 7 bankruptcy include:
- Financial suffering due to garnishment of wages.
- A large burden of unsecured debt.
- Suspension of the debtor’s driver’s license due to an unpaid judgment.
- Limited income or job loss that makes debt repayment impossible.
- Foreclosure of a home or repossession of a car.
- Temporarily stopping a foreclosure or repossession.
- Taxes owed to the federal government or to the state government.
If bankruptcy is being considered as an option, it’s best to work with a qualified bankruptcy attorney to facilitate the transaction both in terms of speed and ease of resolution.