Bankruptcy refers to a legal process which allows a person or a business to resolve certain debts with creditors. The bankruptcy process is intended to provide debtors with a financial fresh start while helping creditors to establish their rights on certain claims. A person or business would file for bankruptcy when they are no longer able to make the payments they agreed to make.
Generally speaking, creditors may not collect on debt amounts once bankruptcy has been filed. They must wait until after the bankruptcy process is completed before they may resume their collection efforts. This is an “automatic stay,” which is put in place partially so the debt payment terms may be re-evaluated and reorganized during the bankruptcy process.
There are several notable advantages and disadvantages to filing for bankruptcy. Some examples of benefits include:
- Automatic stay of collection efforts while the proceedings are underway;
- A fresh start for financial planning;
- Discharge of specific types of debt; and
- New repayment plans that may be easier for the debtor to adhere to.
Some examples of disadvantages include:
- Potential negative effect the business or personal reputation, due to the stigma around bankruptcy;
- Negative effects on current and future credit scores; and
- Potential additional tax consequences.
A creditor, or lender, is the party who loaned money to the debtor. They do so while assuming that the debtor will return the same amount of money borrowed, generally with interest. The most common example of a creditor and debtor relationship would be a bank granting a loan to someone looking to make a large purchase, such as a home or vehicle.
Creditors may sometimes resort to filing a lawsuit against a debtor, if the debtor has made no attempt to remedy the situation. They do this in order to attempt to any income or assets that the debtor may have so the debt may be repaid. Whether filing for bankruptcy can stop a lawsuit from creditors will depend largely on the circumstances. While the automatic stay will stop a creditor from filing a lawsuit, filing for bankruptcy will not stop lawsuits related to criminal actions and support and dissolution cases.
What Are Some Personal Bankruptcy Options?
Personal bankruptcy is also referred to as consumer bankruptcy. There are generally two main options for individuals who would like to file personal bankruptcy: Chapter 7 bankruptcy and Chapter 13 bankruptcy.
Chapter 7 is the most common type of bankruptcy filing, and is ideal for debtors with low income who have high amounts of unsecured debt. These debtors most likely need a quick form of relief. A successful Chapter 7 bankruptcy will result in a discharge, meaning the debtor will be permanently released from having to pay back their debts. Chapter 7 bankruptcy may be ideal for those who have racked up a lot of debt due to unpaid credit card or medical bills.
Chapter 13 filings are referred to as “reorganization” bankruptcy. People who have higher incomes and property that they want protected from creditors will commonly choose a Chapter 13 filing. The process allows the debtor to reorganize the debt and make payments that they can afford.
Some debts could be discharged through this process, while other debts are required to be paid in full. This is to be completed within the timeframe of the bankruptcy payment plan. The payment plan is set up to repay most of the outstanding debt, but at an affordable amount per month for the debtor for a set number of years. The time frame is usually between three and five years.
To put it simply, Chapter 7 is a liquidation process in which the debt is removed from the debtor. This is in exchange for liquidating at least some of their property and selling it off, in order to satisfy some of the outstanding debt. Chapter 13 allows the debtor to keep their property and stop collection action from creditors, until a payment plan can be established.
What Are Some Business Bankruptcy Options?
Business bankruptcy is exactly as it sounds: a business, whether small or corporation sized, cannot afford to pay its debts and must file for bankruptcy. Business bankruptcy options generally consist of Chapter 7, which was just discussed, and Chapter 11. Chapter 11 bankruptcy commonly involves a high cost to the debtor, and is utilized by companies or corporations who are trying to reorganize their debt in order to become profitable again.
Individuals may also be forced to use Chapter 11 bankruptcy instead of 13 if their debts are over a specified maximum amount. Chapter 12 bankruptcy is available if 80% of the business debt incurred is from operating a family farm or fishery.
The following is a quick summary regarding the different Chapters of bankruptcy:
- In Chapter 7, debtors sell off their non-exempt assets to pay back creditors;
- Chapter 13 requires debtors to repay creditors over a three or five year period;
- Chapter 11 is for corporations or wealthy individuals; and
- Chapter 12 is for farmers or professional fishermen.
Are There Any Non-Bankruptcy Options?
There are alternatives to bankruptcy for debt management. The most common would be debt consolidation, which is a method of combining all of your current bills into one monthly payment. This can decrease the amount you pay per month, as well as reduce or eliminate interest rates. In order to consolidate your debts, you generally must work with a debt consolidation company specializing in helping people manage their debts.
A Debt Consolidation Loan combines all of your debts into one single loan that you make monthly payments on. This process reduces interest rates and the amount you pay every month. A Debt Consolidation Loan will stop creditor collection efforts, and can save you from bankruptcy. However, this type of debt consolidation requires that you own a home against which you can take or refinance a loan.
A Debt Management Plan is an agreement negotiated between the debt consolidation company and your creditors. The plan outlines how and when you are going to pay off your creditors. By adhering to this plan, your monthly payments go down and you can pay off your debt in full. This method of debt consolidation also prohibits creditors from their collection efforts, such as contacting you by phone. And, a Debt Management Plan does not require that you own a house.
Unsecured debts can be consolidated under most circumstances. Unsecured debts include:
- Credit card debts;
- Medical bills;
- Student loans; and
Secured debts, such as mortgages, usually cannot be consolidated.
Another alternative to filing for bankruptcy would be to discuss your situation with your creditors. They may be able to work with you on restructuring your payments.
What Are Non-Dischargeable Debts?
For the purposes of bankruptcy, debt can be categorized as either dischargeable or non-dischargeable. The liability for all dischargeable debts is removed upon filing for bankruptcy.
Some examples of non-dischargeable debts include:
- Federal, state, and local tax claims;
- Customs duties;
- Spousal and child support;
- Student loans;
- Secured debts;
- Government imposed fines and penalties;
- False statement debt incurred;
- Fiduciary fraud, such as embezzlement or larceny;
- Punitive damage claims for acts found to be willful or especially malicious;
- Debts not accounted for on court forms; and
- Obligations from drunk driving incidents.
Many of these debts are simply not dischargeable because of public policy reasons.
Do I Need An Attorney If I am Being Sued by a Creditor?
If you are being sued by a creditor, you would benefit from hiring a lawyer who can help settle a debt collection lawsuit. An experienced and local collection lawyer can help you determine where you are in the bankruptcy process and how best to proceed.
An attorney will also communicate with the creditor as well as any other parties involved, and can negotiate any non-dischargeable debts on your behalf. Finally, an attorney can also represent you, ensure your legal rights are protected throughout the bankruptcy process, and represent you in court as necessary.