What is bankruptcy?

Bankruptcy is the legal process where persons declare that they are unable to pay their debts and request relief from the court. There are two basic purposes of bankruptcy: to give the debtor a fresh start and to repay creditors to the extent that the debtor has non-exempt assets.

Bankruptcy comes in two forms, liquidation and reorganization. The four types of bankruptcies available to private individuals fall under one of these two forms.

  1. Liquidation Chapter 7, also known as “liquidation,” is usually the simplest and quickest form of bankruptcy. In a Chapter 7 bankruptcy, the bankruptcy court appoints a trustee who gathers and sells any non-exempt property that you might have, and uses the proceeds to pay your creditors. Chapter 7 is available to individuals, married persons, corporations and partnerships.
  2. Reorganization Chapter 11, a reorganization, is primarily used by business debtors but sometimes by individuals who have substantial assets and debts. Under Chapter 11, a business is allowed to continue operating while the court supervises the reorganization of the company’s debts and determines whether to grant partial or complete relief.
  3. Chapter 12 is a special type of bankruptcy set aside only for family farmers
  4. Chapter 13 is the reorganization of an individual’s debts where the individual pays off the debt, or some portion of the debt, usually over a 3 to 5 year period, under a plan approved and supervised by the court.

Can anyone file for bankruptcy?

Yes, but some restrictions do apply.

In 2005, the Bankruptcy Code was amended to impose additional requirements on anyone wishing to file a bankruptcy case. The new law now requires that debtors perform a “means test” to determine whether or not they are capable of paying back a portion of their debts. If a debtor qualifies under the means test, he, she or they may file under Chapter 7. However, if the debtor does not meet the means test’s standards, the debtor likely will have to file their case under Chapter 13 and pay back some portion of their debt. Note however, that the means test requirement will not apply to debtors whose debts are incurred primarily in the course of business.

Despite the new means test requirement, most individuals and couples will qualify to file bankruptcy under Chapter 7. See means test for a more in depth look at the new standards.

Is bankruptcy right for me?

Whether bankruptcy is an option for you depends very much on your particular financial circumstances and what you hope to accomplish. You should consider first whether bankruptcy will “discharge” (i.e. release you from liability) enough of your debts. Debts that are “non-dischargeable” will have to be paid even after bankruptcy. The primary debts that are non-dischargeable are as follows:

  • Income tax debt, unless:
    • the debt is more than 3 years old, and
    • a correct & timely tax return was filed.
  • Student Loans, unless repayment would cause undue hardship to the debtor;
  • Domestic Support Obligations (i.e. Child Support & Alimony);
  • Debts resulting from injury by willful or malicious acts or through fraud; and
  • Court judgments for injuries or death resulting from driving while intoxicated.

Assuming you do have sufficient debts to make bankruptcy worthwhile, you should also determine what property will be taken and sold to pay your creditors and what property you will be allowed to keep. See Exempt and Nonexempt property.


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