The most commonly used form of bankruptcy, Chapter 7, provides honest debtors who have limited financial means with a fresh start by eliminating many of a debtor's most common financial obligations through the discharge (which is generally granted at the end of the case). In return for the discharge, the debtor must turn over to the trustee certain nonexempt assets. These nonexempt assets are sold with the proceeds distributed to creditors according to priorities set forth in the Code.
Generally, priority expenses of administering the estate, unpaid wages, domestic support obligations, and taxes are paid ahead of ordinary unsecured claims. If assets remain for distribution to unsecured creditors, those creditors who file formal proofs of claim within the time fixed by the court share proportionately in the remaining proceeds.
As discussed below, property that is subject to an otherwise unavoidable lien is generally not administered by the trustee. Such property is covered by the contract between the parties and the rights and remedies available under state law
What Are Some of the Advantages of Chapter 7?
With a few notable exceptions, bankruptcy stops all ongoing legal actions against the debtor, prevents a creditor from beginning new legal actions against the debtor, and prohibits creditors with notice of the bankruptcy case from contacting the debtor, or anyone else besides the debtor's attorney, to discuss or seek collection of a debt;
Most liabilities relating to credit card debts, medical bills, civil judgments, past-due accounts, and judgments due to repossessions and foreclosures may be discharged;
A debtor may be able to keep all or most of his or her property through federal and/or state exemptions; and
Certain liens and certain involuntary transfers (such as garnishments), may be avoided if timely action is taken.
What Are Some of the Disadvantages of Chapter 7?
Debts relating to certain taxes, governmental fines, forfeitures and restitution, criminal or fraudulent conduct, child and spousal support, drunk driving, most student loans, and willful and malicious injuries, may not be dischargeable;
Creditors having a mortgage or security interest in a home or in motor vehicles, may be able to repossess their collateral after the bankruptcy unless the debtor reaffirms the debt or redeems the collateral (see discussion below);
Bankruptcy filings are matters of public record and are generally noted on a debtor's credit history for 10 years, making it more difficult to obtain credit in the future. A stigma may be associated with bankruptcy which views a debtor as being financially or socially irresponsible. Some debtors find the proceedings embarrassing since they must submit to a public examination about their financial affairs and must provide detailed financial disclosures, which are open to the public;
In most cases, a debtor may receive a discharge only once in eight years. Debtors contemplating bankruptcy must consider their financial stability and ability to avoid the problems resulting in the bankruptcy during that period; and
There may be significant tax consequences from a bankruptcy.
What Debts Are Not DIscharged in a Chapter 7 Bankruptcy?
It is important to understand that not all debts are subject to discharge under Chapter 7. Among the common debts unaffected by bankruptcy are certain income and business taxes, alimony, child support, property divisions incident to divorce, governmentally imposed fines, forfeitures or restitution, most student loans, and liabilities resulting from drunken driving. Certain abuses of cash advances and credit cards on the eve of bankruptcy are presumed to be nondischargeable, as are debts arising from fraud, misrepresentation, theft, and willful and malicious injuries to a person or property.
For these latter forms of debts to be held nondischargeable, the creditor must bring a lawsuit against the debtor in the bankruptcy court within 90 days of the filing, and obtain a judgment declaring the debt, or some portion thereof, to be nondischargeable. In such a proceeding, the debtor has most of the rights attendant to any other civil trial in federal court, except the right to a jury trial.
The entire discharge may be denied or revoked if the debtor has engaged in fraud (such as making false statements, concealing assets, or fraudulently transferring assets) before, in, or in connection with the case. Proceedings to deny or revoke a discharge are subject to the right to a nonjury trial on the merits as are claims for nondischargeability of debts.
Finally, while a debtor's personal liability for debts secured by a home, car, boat, furnishings, and the like may be discharged in a Chapter 7 bankruptcy, the affected creditor's right to enforce its lien against collateral pledged for a loan (such as the right of repossession) is generally unaffected by bankruptcy. To retain the collateral, the debtor may have to reaffirm the debt or redeem the collateral. These concepts will be discussed later.
What Property May I Keep in a Chapter 7 Bankruptcy?
Wisconsin law provides certain protections, called exemptions, that restrict the types of property a creditor holding a judgment may seize and sell to satisfy the creditor's claim.The federal bankruptcy laws also contain certain property exemptions that protect similar assets, but in quite different amounts. Specific dollar-value of these exemptions are not listed here because they are subject to legislative change. The types of property for which exemptions are permitted include a specified amount of equity in, among other things, one's personal residence, vehicles, household goods and personal effects, tools of trade, life insurance, and even deposit accounts. Generally, qualified retirement benefits may be excluded from the bankruptcy estate in whole or in part.
When a debtor's property (called collateral) is secured by a lien (such as a home mortgage, vehicle purchase loan, some furniture purchases, and so on), the debtor must decide whether to retain it or surrender it to the secured creditor. If the decision is to surrender the collateral, the unpaid portion of the loan (or any deficiency after sale of the collateral) generally is subject to discharge along with the unsecured debts.
If a debtor wishes to retain the collateral, the debtor must choose either to reaffirm the debt (sign a written document agreeing to continue making regular or agreed-upon payments on the debt and grant the creditor all pre-bankruptcy rights upon a subsequent default) or redeem the collateral (pay the creditor the present fair market value of the collateral in one lump-sum). Only items used for personal, household, and family use (including vehicles, but not real estate) are subject to redemption. A motor vehicle may not be redeemed for less than the balance due, if the loan is less than 2 ½ years old.
Finally, a debtor may be able to avoid certain liens on items held for personal or household use (but not vehicles or real estate) and retain the items without either reaffirming the debt or redeeming the collateral. Lien avoidance generally is a matter for the bankruptcy court, and usually has additional cost to the debtor beyond the basic cost of a bankruptcy case. Debtors should ask about additional costs when contacting an attorney about bankruptcy.
* The information on this page is ©State Bar of Wisconsin. Used with permission