If you’ve struggled with massive amounts of debt, you may have considered bankruptcy. There are several types of bankruptcy, but choosing to file shouldn’t be taken lightly.
There are, however, situations in which bankruptcy is the best (or only) option available. To make an informed and intelligent decision, you should understand what bankruptcy is, when and how to file, the different types of bankruptcy and the benefits and consequences of filing.
What Is Bankruptcy?
When individuals or entities are unable to pay their debts, they may resort to filing bankruptcy. Filing bankruptcy is a legal process that helps relieve the individual or entity from the financial obligation of the debts they owe. There are various types of bankruptcies available depending on the individual’s financial circumstances.
Bankruptcy is an opportunity for debtors to make a “fresh start.” And, in some cases, it’s also an opportunity for creditors to recover some of the debt they’re owed. Depending on the type of bankruptcy filed, someone will meet with a judge who then decides which debt may be dismissed and which ones will need a new payment schedule.
Should You File Bankruptcy?
If you’re wondering if you should file for bankruptcy, there are a few things you should know. Before you move forward with declaring bankruptcy, make sure you’ve made every effort to resolve the problem without legal action. From getting a second job to cutting your expenses in half, there are plenty of ways to take care of your debt obligations without declaring bankruptcy. You should only consider filing for bankruptcy after all other efforts are exhausted.
If you’ve determined it’s the only solution for your situation, it’s wise to consult with a bankruptcy attorney before beginning the filing process. Since filing is complex, having the guidance of an attorney can help you navigate the process. When it comes to legal matters, having an attorney by your side will ensure you’re taking the appropriate action.
How To File Bankruptcy
So now you’re probably wondering how to file bankruptcy. Declaring bankruptcy is not as simple as you may assume. Therefore, the more you understand the filing process, the more successful you’ll be. To help you outline the process, here are the steps individuals and businesses must follow for a successful bankruptcy filing.
- Compile and list all your financial records.Your first step in filing bankruptcy is to compile all your financial records. These records should include your debts, income, expenses and assets. Compiling this list of records will help you better understand your situation as well as be prepared for anything the court requests.
- Hire a lawyer.If you haven’t already found a bankruptcy lawyer, this would be a good time to do so. It’s risky to represent yourself in this type of manner. Since judges aren’t permitted to offer advice, hiring a lawyer can help you make the best choices moving forward and complete the process with ease.Not following the correct bankruptcy process could impact the outcome of your case.
- Complete pre-bankruptcy credit counseling through the United States Courts. The government requires all individuals or businesses who file bankruptcy to complete credit counseling within 180 days prior to declaring your case. You must use an agency listed on the United States Courts website. The courts want you to exhaust all options before moving forward with your filing. Keep in mind that once you’ve completed your credit counseling course you’ll receive a certificate of completion that you’ll need for your filings.
- File a petition for bankruptcy. Your lawyer can help you file all the necessary paperwork for your proceeding. At this point an automatic stay goes into effect and your creditors can’t sue you or garnish your wages.
- A bankruptcy trustee will be assigned to your case.After the petition is accepted, a bankruptcy trustee will arrange a meeting with your creditors. It’s required that you attend this meeting. This meeting allows your creditors and the trustee to ask questions about your case.
- Your eligibility is determined.After reviewing your paperwork, the trustee will determine if you’re eligible for filing.
- Non-exempt property handling.In a Chapter 7 filing, the trustee will determine if your non-exempt property needs to be sold to pay creditors. Non-exempt items can include jewelry, appliances, cars or your home as long as it exceeds the exemption limit.
- Secured debts are returned to creditors.If you have any secured debt, the items will be returned to the creditors at this time. You may also be able to redeem the collateral by paying what it’s worth.
- Complete a debtor education course. Before discharging your case you must take a financial education course from an eligible credit counseling agency.
- Receive discharge on qualifying debts. Your debts will be discharged within 3 to 6 months after filing your bankruptcy. This means your debt is forgiven and no payment is required. After this, your case is closed.
Types Of Bankruptcy
There are several types of bankruptcy for individuals and businesses. The main types of bankruptcy are Chapter 7, Chapter 11 and Chapter 13. Chapter 7 helps individuals discharge their debts which is commonly known as a traditional form of bankruptcy. On the other hand, Chapter 11 and Chapter 13 help individuals and small businesses reorganize their debts to make payment more manageable and get rid of only a portion of their debts. Yet with Chapter 11 there’s no limit to the amount of debt that can be restructured.
But for now, let’s take a closer look at the most common types of filings.
Chapter 7 Bankruptcy
The goal of Chapter 7 bankruptcy is to get rid of as much debt as possible utilizing liquidation. Many assets will be sold to pay off existing debts. However, some personal property is exempt from liquidation. You’ll have to review federal and state exemption rules to determine what guidelines you must follow.
Here are a few federal property exemptions:
- Home equity: If you own less than $25,150 of equity in your home, the bankruptcy trustee can decide whether you need to sell your home to pay off a portion of your debt. If the equity exceeds this amount, your house may need to be sold. Also, this exemption doesn’t account for the lender deciding to foreclose on the property.
- Homestead: You can choose to exempt up to $25,150 of equity in your home or up to $12,575 for other property.
- Vehicle property: Up to $4,000
- Personal property: This exemption can include pets, appliances, musical instruments and more ($625 per item and up to $13,400 total).
- Jewelry: Up to $1,700
- Health aids: Entire amount
To qualify for Chapter 7 bankruptcy, a debtor must be an individual, a partnership, a corporation or other business entity. For an individual to qualify they must have a limited income and can’t pay back at least a portion of their debt obligations. You may be eligible if your income is under the median income level for your state.
If your household income is above the median level, you must pass what’s known as a “means test.” This test assesses your disposable income and whether you have enough to afford your lifestyle while paying down your debt. If it’s determined you have enough to repay some of your debt, you may have to file a Chapter 13 bankruptcy.
Chapter 11 Bankruptcy
Chapter 11 bankruptcy helps entities reorganize their business affairs, debts and assets. Usually involving a corporation or partnership, this form of bankruptcy proposes a plan of action to keep the business alive and repay their debt obligations.
Typically, the firm will remain in operation but will be required to carry out the plan designated by the court. Companies such as General Motors and United Airlines have filed a Chapter 11 bankruptcy in the past. The goal of this bankruptcy filing is to get a business up and running and profiting once again.
Chapter 13 Bankruptcy
Also known as the wage earner’s plan, Chapter 13 helps individuals develop a plan to repay their debts. With Chapter 13 bankruptcy, debtors recommend a 3 to 5-year payment plan to creditors with installment payments. Unlike Chapter 7, debtors don’t have to liquidate all their assets in order to repay their debts. This type of bankruptcy acts as a consolidation loan and allows all payments to flow to the trustee who then distributes funds to the creditors.
Any individual with unsecured debts under $394,725 and secured debts under $1,184,400 is eligible. Eligibility includes individuals who are self-employed or unincorporated.
Before you decide to file Chapter 7 or Chapter 13, make sure you understand the difference and what each process entails before moving forward.
What Happens When You File Bankruptcy?
There are clear benefits and consequences when filing bankruptcy. Here are some of the advantages and disadvantages you need to watch out for when deciding if it’s in your best interest to file.
Benefits Of Bankruptcy
The biggest advantage of declaring bankruptcy is that it gives debtors a fresh start. Depending on which bankruptcy they file, It helps them clear some of their debts while eliminating some of the stress of repayment.
After filing, you’ll no longer receive phone calls or letters from creditors and collections agencies. You won’t need to avoid all those unknown callers for fear they’re calling to collect on your debts. Washing away your debts will free you of the financial burden you may have carried for too long.
Cons And Consequences Of Bankruptcy
Filing for bankruptcy is costly. From attorney fees to filing fees, you may have to pay a chunk of change to simply complete your case. While filing fees may be only a couple hundred dollars, attorney fees can range into the thousands.
It’s also important to account for the negative impact it has on your credit report. It may harm your ability to apply for secured or unsecured loans, get low interest rates, start a new business, get a new job or even buy a new home. Additionally, your car insurance premium may go up since insurers use credit-based insurance scores to determine the risk of you filing a claim.
Also noteworthy is that filing Chapter 7 bankruptcy can stay on your credit report for up to 10 years and Chapter 13 can remain on your credit for up to 7 years. This will impact your credit scores that entire time. However, you’ll be able to rebuild your credit scores over time and the impact of bankruptcy will dwindle.
Check out this resource to learn more about the impact bankruptcy may have on purchasing a new home.
Life After Bankruptcy: 4 Tips For Your Rebound
Bankruptcy law is designed to allow individuals and businesses to start over. In other words, bankruptcy is not a punishment. It’s important to remain proactive after filing bankruptcy and always work toward improving your financial situation. By doing so you can protect your new debt-reduced status. Adopting the actions below will help you maintain solvency.
Budget Money And Limit Spending
Some of you may have had to file bankruptcy due to insufficient budgeting, excess spending or a combination of both. If you’re living beyond your means, it could be hard to keep up with your bills, let alone maintain your lifestyle. So if you struggle with your spending habits, you may want to try implementing a 50/30/20 budget.
With this budgeting method you spend 50% on necessities such as rent and food, 30% on wants such as entertainment or eating out and the last 20% on your savings. Look at your budget and write down your income as well as expenses. Then categorize them by necessities, wants and savings. This will help you determine if you’re within the appropriate allocations for this budgeting method.
If you’re spending a little more in one area, consider cutting back. For example, if you’re spending $200 a month on your cable bill, consider calling your cable provider to lower the price or switch your plan to something more affordable. If you want to cut back, you may even consider switching to a streaming service instead.
There are plenty of ways to cut back. Get creative and find something that’ll work best for your lifestyle. Keep in mind that it may take a little time to find what works best. Be patient and continue to adjust when necessary.
Start An Emergency Fund
It’s also wise to set aside an emergency fund you can only draw from under set circumstances. This fund will put an extra cushion between you and the threat of future financial insolvency. Financial experts recommend setting aside at least 3 to 6 months of expenses in an emergency fund.
For example, let’s say your furnace goes out in the middle of winter. Having the funds available to pay for the repairs will not only keep you warm and cozy but also give you peace of mind. An emergency fund can also help you avoid using high-interest credit cards to afford your emergency expense.
Work To Rebuild Your Credit
Since filing bankruptcy can drastically impact your credit report, it can be challenging to rebuild a good standing. But it’s very possible. With a little patience and perseverance, you can improve your credit. Following these steps toward recovering can help put you on the right track:
- Be certain to make complete timely payments against any new debt or debts that carry over. It’s wise to set up automatic payments to ensure you make all payments on time. You can also set up alerts to ensure your payments post on time. Here are a few debts you need to keep your eye out for:
- Child support
- Student loans
- Tax claims
- Other debts to the government
- Apply for new lines of credit. Applying for new lines of credit can help you build your credit over time. However, you don’t want to apply for too many lines of credit at once. This might signal to creditors that you’re looking to spend excessively beyond your means.
- Request a co-signer for your loans. This may increase your chances of approval if your co-signer has excellent credit. Also, applying for credit with a co-signer may help you receive more favorable rates and terms.
- Consider a secured credit card. Secured credit cards use collateral to protect their financial interest. Using a secured card is a great way to help establish credit.
For a more in-depth guide to establishing credit, check out this article.
Look On The Bright Side
If you have to file for bankruptcy, it’s important not to look at yourself as a failure. While it’s okay to have negative feelings throughout the process, you must look at the positive impact clearing your debt can have. Pat yourself on the back for taking action and doing what you need to do to reach a better financial situation. Accepting where you are will help put you on the path toward recovering and financial stability.
The Bottom Line
Now that you’ve learned about the different types of bankruptcy and understand how to move through it, it’s time to decide if bankruptcy is the best option for you. Remember that bankruptcy is an offering, not a punishment. The recovery process might be protracted and effortful but ultimately this is your chance to begin again with a clean slate.
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