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Bankruptcy:  A Complete Guide

Bankruptcy:  A Complete Guide

by

JG Wentworth

September 19, 2022

12 min

Broken piggy bank with band aid bandage or plaster finance background

The word “bankruptcy” alone is enough to make most people shudder. Because of its reputation for significantly damaging credit scores for seven to 10 years, bankruptcy is usually considered to be a last-resort option.

But despite its bad rap, nearly 400,000 people still filed for non-business bankruptcies in 2021. So why might someone file for bankruptcy? Our helpful guide* sheds light on what bankruptcy is, how it works, and why someone might choose to pursue it.

Table of contents

  1. What is bankruptcy?
    1. How to declare bankruptcy
    2. The bankruptcy process
  2. What are the different types of bankruptcy?
  3. Bankruptcy discharges
    1. Which debts can’t be discharged during bankruptcy?
  4. What assets are protected in bankruptcy?
  5. Why people declare bankruptcy
  6. What are some alternatives to bankruptcy?
    1. Debt consolidation loans
    2. Debt resolution**

 

What is bankruptcy?

Very simply put, bankruptcy is the legal process of allowing someone to clear some or all of their debt, and/or make a repayment plan. Bankruptcies are handled in federal courts and are therefore a matter of public record. Individuals, spouses, or corporations and similar entities can file.

Established by the Supreme Court in 1934, the rules of bankruptcy were put in place to give “the honest but unfortunate debtor…a new opportunity in life and a clear field for future effort, unhampered by the pressure and discouragement of preexisting debt.”

Declaring bankruptcy can offer filers a lot of relief—but it can also come with some serious setbacks.

How to declare bankruptcy 

Bankruptcy cases normally begin when a debtor files a petition with their jurisdiction’s bankruptcy court.

Although it’s possible to on your own—called filing “pro se”—experts strongly recommend seeking the help of a professional bankruptcy lawyer so that you fully understand all the long-term legal and financial consequences of filing.

The bankruptcy process

Most of the bankruptcy process is administrative and conducted outside of the courthouse, usually by a court-appointed trustee assigned to the case.

Typically, the only formal proceeding a debtor needs to attend is a meeting of the creditors, sometimes called a 341 Meeting, held at the trustee’s office. This meeting, required by Section 341 of the Bankruptcy Code, is an opportunity for the creditors to question their debtor about their debts and property.

However, each judicial district in the country has its own federally-appointed bankruptcy judge who has the ultimate decision-making power to decide someone’s eligibility for filing and whether a discharge should be made. In some cases, the debtor might be required to appear in front of their district’s judge for a hearing.

Overall, the full bankruptcy process itself differs depending on the type of bankruptcy you’re filing. All procedural aspects of bankruptcy are fully defined in the Federal Rules of Bankruptcy but may vary depending on your local bankruptcy court’s rules.

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What are the different types of bankruptcy?

There are several types of bankruptcy outlined in the U.S. Bankruptcy Code, but the most common types of bankruptcy filed by individuals are Chapter 7 and Chapter 13.

Chapter 7 – Liquidation

  • Trustee reduces a debtor’s estate to its cash value and distributes to creditors
  • Cases can include nonexempt property (i.e., property that can be liquidated), but usually do not
  • To qualify, debtors must pass a “means test” to gauge their ability to repay their creditors on their own and ensure they aren’t abusing the bankruptcy system
  • See: How Much Debt Do You Need To File Chapter 7 Bankruptcy

Chapter 9 – Adjustment of Debts of a Municipality

  • Can only be filed by a municipality (e.g., cities, towns, school districts, counties, etc.)
  • Similar to reorganization under Chapter 11

Chapter 11 – Reorganization

  • Usually filed so that a commercial enterprise can continue to operate while repaying creditors
  • Reorganization plan is court-approved, with the goal of the enterprise returning to profitability
  • Some debts must be repaid, while others can be discharged
  • Debtor can plan to terminate certain contracts/leases, recover assets, and rescale operations

Chapter 12 – Adjustment of Debts of a Family Farmer or Fisherman with Regular Annual Income

  • Allows a family farmer or fisherman to continue operating their business while repaying creditors
  • Similar to Chapter 13 process, with proposal to repay over a period of no more than three years

Chapter 13 – Adjustment of Debts of an Individual with Regular Income

  • Often filed by people who do not pass the Chapter 7 means test
  • Debtor can propose a plan to repay debts over time, usually three to five years, which must be approved by the court
  • Debtor may have to make an appearance in front of a judge for their plan confirmation hearing
  • Debtor is protected from lawsuits while their repayment plan is in effect
  • After the repayment plan period, remaining debts are discharged

Chapter 15 – Ancillary and Other Cross-Border Cases

  • Provides procedures for dealing with debt across borders
  • Filed when the debtor or their property is subject to the laws of both the U.S. and one or more foreign countries

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Bankruptcy discharges

A bankruptcy discharge is a permanent order by a bankruptcy court that releases a borrower from their liability for certain debts. In the case of a discharge, the debtor is no longer legally required to pay that debt.

Depending on the case and the type of bankruptcy filed, a discharge can occur any time from a few months to a few years after initial filing.

Which debts can’t be discharged during bankruptcy?

Although different chapters may vary on specific types of debt that can’t be discharged, examples include:

  • Child support
  • Debts for willful/malicious injury to another person or property
  • Some unpaid taxes, like tax liens
  • Alimony
  • Debts for death or personal injury that resulted from the debtor’s operation of a motor vehicle while intoxicated
  • Any debts not included in the bankruptcy filing

While not impossible, it is difficult and uncommon to have student loans discharged during bankruptcy.

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What assets are protected in bankruptcy?

People often assume that declaring bankruptcy will result in all their belongings being liquidated, or reduced to their cash value, and redistributed. However, many people who file Chapter 7 bankruptcy—the most common type—will not have to part with any of their possessions at all due to exemptions.

Many Chapter 7 cases include very little or no nonexempt property, or property that could be liquidated by the court—and in fact, many types of property are exempt by law from liquidation.

Depending on which state you’re in, items like clothes, tools, wedding rings, and at least some equity in your home and car could be protected as part of your bankruptcy filing. If you’re curious about the rules in your state, it’s best to confer with a bankruptcy attorney to understand what’s at stake and what’s protected.

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Why people declare bankruptcy

Bankruptcy is not ideal for everyone, but there are legitimate reasons one might have to declare bankruptcy over other options. Some people feel that they could not pay off their debts on their own; others may not want to borrow more to consolidate their debts or don’t think they could afford monthly payments. See: How Much Debt is Worth Filing for Bankruptcy

For many, however, the cons are significant, making them consider bankruptcy to be the last resort.

Pros

  • Some or all of your debts could be cleared
  • You avoid having to drain retirement funds to repay your debts
  • Once a debt is discharged, you will be protected by the court from being contacted or sued by your creditor for collection

Cons

  • Your credit score will be negatively affected for seven to 10 years
  • Bankruptcy filings are part of the public record
  • You could struggle to get approval for an unsecured loan or credit card, or you’ll be offered unfavorable lending terms
  • Your insurance rates could go up
  • While you can file more than once, there is a limit on how often you can file
  • Anyone who has cosigned a loan with you may be on the hook for the debts you discharge

Overall, if you’re leaning toward filing for bankruptcy, you may wish to speak with a bankruptcy attorney first to fully understand the impact it will have on your financial future.

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What are some alternatives to bankruptcy?

Because bankruptcy can be a long, complicated process many people may find that they prefer these alternatives.

Debt consolidation loans

Consolidating your debt with a loan is one way to make a repayment plan that doesn’t involve going through a federal court. By grouping all of your monthly payments into one account, often at a much lower interest rate, you can simplify your finances and budget for repayment more easily.

Even better, by making payments on time, people who consolidate their accounts could possibly improve their credit scores.

To explore your consolidation options, check out our tool that customizes loan offers tailored to your financial needs within minutes.

Debt resolution**

Unlike bankruptcy, debt resolution is not a complicated legal procedure. Rather, you can resolve your debts on your own or with the help of an experienced team (like the Debt Specialists at JG Wentworth!).

Debt resolution is a great option for people who can’t qualify for bankruptcy or don’t want to deal with the headaches that come along with it.

If you’re interested in learning more about whether debt resolution could be the best option for you, give us a call at (888) 505-1794 . We’ll help you understand the process and make an informed decision about whether our Debt Resolution Program is your best alternative to bankruptcy.

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Sources cited

  1. Bankruptcy filings drop 24 percent. United States Courts. (2022, February 4). Retrieved from https://www.uscourts.gov/news/2022/02/04/bankruptcy-filings-drop-24-percent
  2. Bankruptcy. United States Courts. (n.d.). Retrieved from https://www.uscourts.gov/services-forms/bankruptcy
  3. Local Loan Co. v. Hunt (Supreme Court of the United States 1934).
  4. Process – bankruptcy basics. United States Courts. (n.d.). Retrieved from https://www.uscourts.gov/services-forms/bankruptcy/bankruptcy-basics/process-bankruptcy-basics
  5. Federal rules of bankruptcy procedure. United States Courts. (n.d.). Retrieved from https://www.uscourts.gov/rules-policies/current-rules-practice-procedure/federal-rules-bankruptcy-procedure
  6. United States Code. Office of the Law Revision Counsel. (n.d.). Retrieved from https://uscode.house.gov/browse/prelim@title11&edition=prelim
  7. Cornell Law School. (n.d.). Means test. Legal Information Institute. Retrieved from https://www.law.cornell.edu/wex/means_test
  8. Discharge in bankruptcy – bankruptcy basics. United States Courts. (n.d.). Retrieved from https://www.uscourts.gov/services-forms/bankruptcy/bankruptcy-basics/discharge-bankruptcy-bankruptcy-basics
  9. Investopedia. (2021, April 28). What debt can’t be discharged when filing for bankruptcy? Investopedia. Retrieved from https://www.investopedia.com/ask/answers/102814/what-debt-cannot-be-discharged-when-filing-bankruptcy.asp
  10. Weston, L. (2020, September 21). Fear of bankruptcy holds too many people back. AP NEWS. Retrieved from https://apnews.com/article/virus-outbreak-73d65e30c38fff47bc03da7c353e91ed

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*This blog is for informational purposes only. JG Wentworth does not provide legal, financial or tax advice. You should consult with independent professionals for such advice or services. Please consult with a bankruptcy attorney for more information on bankruptcy.

**This debt relief program is provided by JGW Debt Settlement, LLC. JGW Debt Settlement, LLC is licensed/registered to provide debt settlement services in states where licensing/registration is required.

Debt relief program results will vary by individual situation. As such, it may not be suitable for all persons. JG Wentworth does not offer debt relief services in all states and fees may vary from state to state. Not all debts are eligible for enrollment. Not all individuals who enroll complete our program for various reasons, including their ability to save sufficient funds. Savings resulting from successful negotiations may result in tax consequences, please consult with a tax professional regarding these consequences. The use of debt relief services can have an adverse impact on your credit rating, may result in you being subject to collections, and may result in other adverse action by creditors or collection agencies. Read and understand the program contract prior to enrollment. JGW Debt Settlement operates in the following states: AL, AK, AZ, AR, CA, CO, FL, ID, IN, IA, KY, LA, MD, MA, MI, MS, MO, MT, NE, NM, NY, NC, OK, PA, SD, TN, TX, UT, VA, DC, and WI. If a consumer in CT, GA, HI, IL, KA, ME, NH, NJ, OH, RI, SC and VT contacts us we may connect them with a law firm that provides debt resolution services in their state.