In a Chapter 7 bankruptcy a person can have most of their debts cancelled or “discharged” in bankruptcy terminology. Chapter 7 is often called “liquidation” bankruptcy. When a person files for Chapter 7 bankruptcy, the court issues an order, called an “automatic stay”, that immediately stops most creditors from trying to collect payment.

A Chapter 7 discharge can be helpful because of the fact that debts are effectively wiped out. Once a Chapter 7 discharge is granted, the debtor is not required to pay back the discharged debts.

Not all debts can be discharged in a Chapter 7 bankruptcy, however. There are exceptions. For example, student loans cannot be discharged in bankruptcy.

In a Chapter 7 bankruptcy most of a person’s property is sold; the proceeds are used to pay off the person’s debts. Chapter 7 bankruptcy is often chosen by people who do not own a home, so they do not risk losing their home. Some of a person’s personal property is exempt from being sold, but there are limits on the value of property that can be exempt. If the value of property is greater than the exemptions, it can be sold and the proceeds from the sale used to pay off debt.

There are both federal exemption rules and state exemption rules. Some states allow a person to choose between the federal exemptions and the state exemptions. Other states may require that the state exemptions apply. A married couple filing for bankruptcy together can typically double the value of exemptions.

There are negative consequences to a Chapter 7 discharge of debts. The discharge will probably have a negative effect on a person’s credit score. This can make it impossible for a person to obtain new credit, for example, a mortgage loan. A person seeking the protection of Chapter 7 bankruptcy may also have to take mandatory financial counseling courses.

When Should I File under Chapter 7 Instead of Chapter 13?

A person should file a Chapter 7 if the following circumstances apply:

  • The person is unable to pay any of the debt even under a repayment plan;
  • The person needs quick relief from all of their creditors;
  • Most of the person’s debt can be discharged; debts that can be discharged are such debts as credit card balances, personal loans, and medical bills.
  • The person is possibly unemployed and would not have the financial resources to pay their debts even with a repayment plan.
  • The person does not own much property of value that would have to be sold off to pay creditors.

In Chapter 13 bankruptcy, a person’s debts are not eliminated. Rather the debtor and their creditors work out a plan for the repayment of the debt that the debtor can manage.

One advantage of a Chapter 13 bankruptcy is that it does not have as negative an effect on the debtor’s credit rating as a Chapter 7 bankruptcy has. However, a person seeking Chapter 13 bankruptcy should know that they have the resources to pay their debts over time.

If a person does not have the resources to pay back their debts over time, then a Chapter 7 bankruptcy might be the better choice. An experienced bankruptcy lawyer can help a person analyze their situation and decide which would be best, Chapter 7 or Chapter 13.

What Are the Requirements to File Chapter 7 Bankruptcy?

In order to file for bankruptcy under Chapter 7, a person must meet the following requirements:

  • The person must reside, have a domicile, have a place of business, or own property in the U.S.;
  • It would not be “fundamentally unfair” for the judge to grant bankruptcy relief to the person;
  • The person’s monthly income is below the median level for the size of the person’s household in the state where the person resides;
  • If the person’s income is above the state median income, the person must be able to pass a “means test” (more on this test below).

What Is Chapter 13 Bankruptcy?

Chapter 13 bankruptcy allows a person to restructure their finances and pay off creditors. Most of their debts will not be cancelled; instead, the person is allowed to obtain a repayment plan that reflects their financial situation. This may be favorable for people who are beginning to recover financially from a period of financial hardship, e.g. unemployment. Chapter 13 may be better for a person’s credit rating.

A Chapter 13 bankruptcy allows the debtor to pay off the non-exempt portion of their property and keep it rather than losing it in a trustee sale. So, for example, if a debtor has more equity in their home than is protected by exemptions, the debtor may choose a Chapter 13 bankruptcy. The debtor can pay off the equity and keep their home.

Knowing the differences between Chapter 7 and 13 can help a person avoid more financial woes in the future. There are several different filing and eligibility requirements for Chapter 7 and Chapter 13 bankruptcy.

Chapter 7 vs. Chapter 13 Bankruptcy

Chapter 7 bankruptcy allows a person to have most of their debts discharged or cancelled. Chapter 7 is often called “liquidation” bankruptcy. A debtor is not required to pay back debts that are discharged. A person seeking Chapter 7 bankruptcy must meet the requirements listed above, mainly the requirement that the person does not have the resources to pay back their debts.

Chapter 13 bankruptcy allows a person to restructure their finances and pay off creditors over time. Their debt will not be cancelled; instead, the person may be allowed to obtain a repayment plan that is manageable for their financial situation. This may be favorable for people who are beginning to recover financially from a period of unemployment or disability. Chapter 13 may be more beneficial for a person’s credit rating. Also, the person might be able to keep their property, for example their home.

Not all debts are subject to cancellation. For instance, student loans usually cannot be discharged. A Chapter 7 bankruptcy will probably have a negative effect on a person’s credit score. They may also have to take mandatory financial counseling courses.

Also, the person seeking Chapter 7 relief may not be able to keep all of the property they own. The court may arrange for some property owned by the debtor to be sold to pay off the debts that cannot be discharged. Examples of debts that might not discharged are student loans,

Can I Switch to a Different Kind of Bankruptcy after Filing?

It may be possible for a person to switch to a different kind of bankruptcy claim after they have filed. In fact, courts may require a person to switch from one kind of bankruptcy chapter to another. This is known as “forced conversion” and may occur at the discretion of the bankruptcy judge.

For example, a court might require a person to switch from Chapter 7 to Chapter 13, if the court finds that the person actually has adequate financial resources to pay off their creditors. Converting from Chapter 13 to Chapter 7 may also be possible if the person meets the requirements for filing for Chapter 7.

When Should I File under Chapter 13 Instead of Chapter 7?

Chapter 13 might be the better choice that Chapter 7 for a person if:

  • The person has debts that are not dischargeable in Chapter 7, e.g. student loans;
  • The person is in default on a mortgage or car payments;
  • The person has more property than can be exempted under Chapter 7;
  • The person owes taxes that cannot be discharged in a Chapter 7 bankruptcy;
  • The person wants to repay the debt but needs a manageable plan;
  • The person wants to save their home from foreclosure.

If a person has debts that would not be discharged in a Chapter 7 bankruptcy and would risk losing valuable property, e.g. a house, then a Chapter 13 bankruptcy might be the better option. If a person successfully pays back creditors in a Chapter 13 bankruptcy per the plan agreed to, then some of the person’s debts might be discharged as in a Chapter 7 bankruptcy. So-call “unsecured debts”, such as credit card balances and medical bills, could be discharged in the end.

On the other hand, if the person has debt that can be discharged completely and does not own any non-exempt property, then Chapter 7 might be the better choice.

Do I Need a Lawyer for Help with a Bankruptcy Proceeding?

Filing for bankruptcy can be a challenging task. It is in your best interest to hire an experienced bankruptcy lawyer to help you. Your lawyer can explain the differences between Chapter 7 and Chapter 13 bankruptcy. An experienced bankruptcy lawyer can help you determine which approach would work best for you.

A qualified bankruptcy lawyer knows how to prepare the technical documents that must be presented to the court and can most effectively represent you in court. You would definitely want to get a qualified bankruptcy lawyer to work for you during a bankruptcy proceeding.