One of the most common questions I am asked is “what is the difference between a chapter 7 bankruptcy and a chapter 13 bankruptcy?” Some clients who have done their own online investigation are certain that they want to file a Chapter 7, or nothing else. However, a Chapter 13 bankruptcy may put them in a much better long-term position. Therefore, it is important to understand the difference between the two.
Chapter 7 Bankruptcy
Chapter 7 is also called a liquidation bankruptcy. It is generally available to debtors that earn less than the median income for a family of their size living in the same county, have disposable income of less than $200, and pass the Means Test, which is an objective look at what your budget would be if your expenses matched typical household expenses as determined by the IRS.
If you qualify for a Chapter 7, the trustee (a 3rd party appointed by the court to represent your creditors) will analyze your case to determine whether the information provided in your documents is true and accurate, and examine your assets to determine if they are protected with the exemptions provided in the bankruptcy code. If all of your assets are protected – as they are in 96% of all cases– then you keep all of your property upon discharge. If there are assets that are not protected, the trustee can sell the unprotected assets, give you the money that you are able to protect, and distribute the remainder to your creditors.
Chapter 7 cases are typically completed, and you receive your discharge in a little over three months.
Chapter 13 Bankruptcy
Contrary to popular belief, Chapter 13 does not always mean that you must pay back all of your debt. This may be true for some debtors that have particularly high incomes. However, most of my clients pay back only a portion of the debt, and the rest is discharged. The monthly payment you make to the trustee is generally equal to your disposable income.
Another way to think about Chapter 13 Bankruptcy is that you will pay to the trustee any money that you would otherwise put towards a vacation or savings account. The payment you make to the trustee should still leave you with money to pay your normal living expenses, and to have a reasonable amount left over to do some fun things with your family.
Aside from your normal living expenses, you simply have to make sure that your bank account has enough to cover your payment to the trustee each month. The trustee automatically withdraws the money (or your employer forwards it to the trustee), and pays your creditors their share. For many who have been juggling several creditors for months or years, the idea that they only have to make one payment is a nice break from the chaos they had been dealing with.
Chapter 7 vs. Chapter 13 Bankruptcy: Which is better?
While most people feel that Chapter 7 is the quicker, easier, and less painful bankruptcy, it’s not always the best fit, even if you qualify.
What if I told you that even though you may qualify for a Chapter 7 bankruptcy, as an alternative, if you paid off some of your debt in a Chapter 13 for 3-5 years, you could wipe out second mortgages and home equity loans, and you could reduce the amount you owe on a rental property, a car or other personal property (down to their actual cash value). These options are only available in a Chapter 13 bankruptcy.
So while it initially sounds good to wipe out all of your debt in 3 months, it might sound even better to walk out of bankruptcy still owning your income property that turns a profit.
I often think that the impression of Chapter 13 is that you will spend 3 -5 years without being able to buy anything for yourself, or that you will never eat at a restaurant with your family again. On the contrary, I think most of my clients find Chapter 13 to be somewhat comforting.
Of course, no article can fit every situation. Bankruptcy is a very complex area of the law. You should discuss your financial situation with an experienced bankruptcy attorney.
If you or someone you know are currently experiencing financial difficulties, please contact Colin Linsenman or Peter Mooney at 810-235-9000 to discuss bankruptcy as one option to alleviate your financial hardships.