Chapter 7 bankruptcy is a type of debt bankruptcy where most debts are discharged through the liquidation of assets. The court appoints a trustee to oversee the case. Part of the trustee’s job is to seize the debtor’s assets, sell them, and distribute the proceeds to the creditors.
Definition and Example of Chapter 7 Bankruptcy
Chapter 7 bankruptcy is the most common type of debt bankruptcy in the United States. The trustee takes control of the assets you own and sells them according to bankruptcy laws and rules to raise funds to pay off your debts.
You may have a second car that you do not use to go to work. Owning it is a luxury. There is no loan on it, and it is worth $6,000. The trustee will sell it and distribute that money among your creditors.
Note: Filing for Chapter 7 bankruptcy can help you achieve a “clean slate” in your financial life, but it will remain on your credit report for 10 years.
How Does Chapter 7 Bankruptcy Work?
Creditors must submit valid claims to receive payment on your debts, and the trustee cannot take and sell everything you own. You are allowed to keep some “exempt property” so you do not lose everything you need to live. You have a fresh start.
Exemptions apply to certain types of property. The federal government provides a list of exemptions, and many states have their own lists. Debtors must use their state’s list in some of these jurisdictions. Other states allow them to choose between their own list and the federal list; in this case, debtors can choose the set of exemptions that is more beneficial to them.
Common exemptions include:
- Residence / home
- Car
- Some retirement accounts
- Necessary property for earning a living
Retirement plan exemptions are available to everyone, even if they must accept their state’s list, and their state does not provide an exemption for those accounts.
Many Chapter 7 cases are considered “no asset cases.” There is little or nothing for the trustee to sell or liquidate after applying the exemptions.
Note: Creditors rarely receive what they are owed, as most Chapter 7 bankruptcies do not have enough funds to cover all debts after accounting for exempt property. These unpaid balances are “discharged” so the debtor no longer suffers from that debt.
Chapter 7 vs. Chapter 11 Bankruptcy
There are many types of debt bankruptcy. It is important to choose the best option for you and your financial future. Here are the main differences between Chapter 7 bankruptcy and Chapter 11 bankruptcy:
| Chapter 7 Bankruptcy | Chapter 11 Bankruptcy |
|---|---|
| Also known as “liquidation” or “straight bankruptcy” | Also known as “reorganization” or “restructuring bankruptcy” |
| Primarily used by individuals to help discharge debts | Primarily used by businesses to help pay off debts while continuing operations |
| The process generally takes four to six months | The process can last for years |
Requirements for Filing Chapter 7 Bankruptcy
Gather all your financial records, such as bank statements, credit card statements, loan documents, and pay stubs. You will need this information to complete the application, schedules, and the statement of financial affairs along with other documents that must be submitted to the court. You can download copies of these documents for free from the U.S. courts website.
Chapter 7 documents include a voluntary petition for relief, schedules of assets and liabilities, declarations regarding the debtor’s education, and a statement of financial affairs. These documents include lists of all properties, debts, creditors, income, expenses, and transfers of your property.
You or your attorney will file everything with your local bankruptcy court clerk. You will need to pay a filing fee.
Tip: You can visit the federal court locator page, select “bankruptcy” under “court type,” and add your location in the bottom box to find your local bankruptcy court.
Consultation
Credit Counseling
Every individual debtor wishing to file for Chapter 7 must participate in a session with a certified credit counselor before filing the case. The session can be attended in person, online, or by phone. The U.S. Department of Justice provides an interactive search tool on its website to help you find certified credit counselors in your area.
The reason for this requirement is that some potential bankruptcy debtors may not know that they have other options. A credit counselor may be able to suggest alternatives that could keep you out of bankruptcy court.
Most debtors will also be required to take a financial management course before they can receive a discharge. This lesson is often provided by the same entity that you use for credit counseling. Plan to spend about two hours either in person, online, or by phone for each session.
Means Test
Debtors must also pass a means test, which is another document that must be completed when filing. This test was added to the bankruptcy law in 2005. It calculates whether you can afford (or have the “means”) to pay at least a portion of your debts.
The means test compares your household income to the median income of your state. It then compares your expenses to the local standards for what people typically pay for similar expenses in your area.
You can file a Chapter 7 bankruptcy under very specialized exceptions if you fail the means test. Your alternative would be to file a Chapter 13 repayment plan instead. The means test requires the completion and submission of Official Form 122A-2 to the bankruptcy court.
Creditors’ Meeting
The court will issue a notice of the “Creditors’ Meeting” to the debtor upon filing for Chapter 7 bankruptcy. It is often referred to as the “341 Meeting” after the section of the bankruptcy code that stipulates it. The notice is sent to all creditors listed in your bankruptcy documents.
Any creditor can attend the meeting and ask the debtor questions about their bankruptcy and financial situation. The most common creditors who usually show up are auto lenders who want to know what you intend to do regarding the car payment if you have one.
Note: Bankruptcy judges are not allowed to attend the creditors’ meeting. This rule aims to ensure they remain neutral.
The trustee at this meeting will also ask the debtor various questions, such as whether all information in the bankruptcy documents is correct and accurate. They will check that the debtor understands all the implications of filing for bankruptcy and receiving a discharge.
The trustee may continue the creditors’ meeting at a future date if they wish to investigate certain aspects of the bankruptcy in more depth.
Debtor Discharge
The bankruptcy court will automatically grant a discharge if the trustee and creditors do not object on valid grounds. The last day to file an objection to the discharge is 60 days after the creditors’ meeting or after the first meeting date if it is continued and adjourned to another date. The discharge is typically entered after several days if no objections are filed. It prevents creditors from trying to collect any debt against you personally if you incurred it before the date you filed for bankruptcy.
Some debts cannot be discharged, including certain taxes and obligations related to child or spousal support. These debts will continue through Chapter 7 proceedings, and you will still be required to pay them.
A creditor may still be able to obtain a debt discharged from the bankrupt debtor if someone else co-signed the loan or debt with you and did not also file for bankruptcy.
Source: https://www.thebalancemoney.com/what-is-chapter-7-bankruptcy-316202
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