What is Bankruptcy?
There are four types of bankruptcy for individuals, though most people think of only two: Chapter 7 and Chapter 13. The names come from the chapters of the United States Bankruptcy Code where each type is found.
Chapter 7 is the bankruptcy most people think of first. In Chapter 7 a bankruptcy trustee is appointed. This person is not a judge but is usually a lawyer. The trustee’s job is to look at everything the person owns and decide whether he can sell any of that property to get cash. He will then distribute that cash among the person’s creditors on a pro rata basis. Much of what most debtors own is exempt, meaning the trustee cannot sell it. For example, almost all household items such as beds, food, refrigerators, washers, dryers, stoves, furniture, clothing and the like are exempt. Each person has a $3,000 exemption in a motor vehicle. Retirement accounts, such as IRAs, 401ks, and the like are also exempt. In many cases the trustee closes the case as a “no asset” case, meaning there is nothing for the creditors to receive.
Chapter 13 is where instead of the trustee selling property and using the money to pay debts the debtor pays the trustee a monthly amount and the trustee sends that to the creditors. A Chapter 13 lasts from three to five years, unless creditors are paid in full before that time. The amount of the monthly payment depends on the debtor’s disposable income, which is the amount left each month after paying all necessary living expenses, such as rent or mortgage, food, utilities, insurance, medical expenses, clothing and the like. The debtor proposes a written plan that is filed with the court as to how much she will pay and makes those payments to the trustee. If the court confirms the plan, when it is completed the debtor receives a discharge from all other debts. The advantage to a Chapter 13 over a Chapter 7 is that it can prevent foreclosure or repossession of property and delinquencies can be made up in the plan. Also, some debts that are not dischargeable under Chapter 7 can be discharged under Chapter 13. The disadvantage is that the bankruptcy can go on for several years while a Chapter 7 is usually over in about four months.
Chapter 11 is a reorganization. Many people think that Chapter 11 is only for businesses but individuals can file Chapter 11 too. However, they are very expensive and complicated.
Chapter 12 is like Chapter 13 but is only for family farmers. A family farmer is defined as one whose primary source of income is from farming or ranching activities. Chapter 12 gives more flexibility to the debtor in terms of payments because of the way farmers receive their income. Most farmers can’t count on a regular income each month, which makes Chapter 13 impractical for them.
FEES AND COSTS
There is a filing fee of $335 for a Chapter 7 and $306 for Chapter 13. These fees are set by the courts and are paid to the court.
Legal fees in Chapter 7 vary depending on the complexity of the case. If a case is simple and straightforward (see our blog post “I Have a Simple Bankruptcy“), with few creditors and no secured creditors where reaffirmation agreements have to be negotiated, and no issues over the Means Test, fees will be lower. As the case gets more complex, such as more creditors, business as well as personal debt, Means Test issues, secured creditors with whom you want to reaffirm, etc., fees will increase. We offer an initial consultation at no charge. During this consultation, which lasts up to thirty minutes, we will explain the bankruptcy process and get an idea of the complexity of your case. At that point we are generally able to tell you whether you qualify for Chapter 7. If there are Means Test issues that raise a question as to whether you qualify for Chapter 7, for a small fee we will do a Means Test analysis.
If you qualify for and want to file Chapter 7 we will quote a fee after receiving your financial information so we know what will be involved in your case. This fee has to be paid in full before we file. If it isn’t, we become a creditor just like everyone else and cannot collect the balance. We will accept payments until the fee is paid in full. If you have decided to file bankruptcy, you should stop paying any bills such as credit cards that will be discharged. You will not get any “points” from the credit card companies for being current when you file. Use that money to pay legal fees. DO NOT stop paying utilities, car payments or house payments, unless you intend to surrender (give up) your car or house.
If you file Chapter 13 we will take an initial payment but will agree to receive the bulk of our fees through payments to the trustee.
THE MEANS TEST
You may have heard of the Means Test. This was added to the Bankruptcy Code in 2005. Congress believed that too many people were filing Chapter 7 when they really had the ability, or means, to repay some of their debt. The Means Test is designed to identify those people and alert the court that these people might be abusing the bankruptcy system by filing Chapter 7.
The Means Test begins by comparing the debtor’s current monthly income (CMI) to the median income for a family of the same size in the state where the debtor will file. If the CMI is below the median income, the debtor passes the Means Test. If the CMI is above the median income, there are other parts of the Means Test form that the debtor must complete to determine whether he passes.
Current monthly income is determined by taking all of the debtor’s income for the six months prior to the month in which the debtor intends to file and getting an average for those six months. This is then multiplied by 12 and compared to the median annual income.
If your income, based on your CMI, is above the median, don’t despair. In many cases you may still qualify for Chapter 7 after completing the remainder of the Means Test form. We will help you with the form as part of our services. And even if after the form is complete you still don’t pass the Means Test, it is possible that extenuating circumstances in your case will allow you to file Chapter 7.