Chapter 7 vs. Chapter 13 Bankruptcy
Whether you're facing foreclosure, maxed-out credit cards or constant calls from creditors, you'll eventually have to do something for financial relief. One option is bankruptcy. However, you'll face a choice between Chapter 7 vs. Chapter 13 bankruptcy, so it helps to understand them. Keep reading to learn about both types and the differences between them.
What is Chapter 7 bankruptcy?
Attorneys and courts often refer to Chapter 7 as the liquidation bankruptcy chapter. That's because filing for Chapter 7 requires a trade-off: You receive a discharge of qualifying debts in exchange for surrendering some of your assets. However, the court can only take non-exempt assets, so there is always a chance you won't lose any.
The pros of Chapter 7
Chapter 7 offers several benefits compared to Chapter 13.
- Speedy resolution. Most Chapter 7 cases take less than six months to complete.
- Instant debt relief on qualifying debts. This means the court forgives the qualifying debts you owe, potentially leaving you debt-free.
- Cost savings. Chapter 7 requires a one-time fee, which covers the court filing costs and the legal expenses your lawyer charges.
The cons of Chapter 7
Keep in mind some of the limitations of a Chapter 7 bankruptcy.
- Not all debts qualify. Only provides debt forgiveness for qualifying debts; you might still owe money to creditors afterward. For example, it provides a discharge on qualifying unsecured debts, such as credit card bills, unsecured personal loans and medical debts. Chapter 7 doesn't usually provide a discharge for IRS tax debt, student loans or child support arrears.
- You can lose assets. This may include cash or even your home, in some cases.
- Not everyone qualifies. Only available to some: High-income earners can't use Chapter 7 due to income restrictions.
- Credit is impacted. A Chapter 7 case remains on your credit report for 10 years from the filing date.
How to file bankruptcy Chapter 7
Learning how to get out of debt through Chapter 7 requires legal counsel. The process begins with an initial consultation appointment with a bankruptcy attorney. When you call to schedule the appointment, the law firm will give you a list of documents to bring. This list includes pay stubs, tax returns and debt statements, so you must prepare by finding these documents. During this meeting, the attorney will ask questions about your income, debts and savings and will ask to see your documents. They'll also perform a means test, which reveals if you qualify for Chapter 7. Your attorney can also explain the effects Chapter 7 will have on your debts, assets, credit and life.
If you qualify for Chapter 7 and decide to use it, the attorney will complete the bankruptcy petition and explain your responsibilities. The law requires you to complete several credit counseling courses during the process. Next, the attorney files the petition with the local bankruptcy court. After the court receives it, it issues an automatic stay and sets a date for a required court hearing.
The automatic stay is a court order that prevents creditors from asking you for money and lasts until the court closes your case. This court order provides relief from harassing creditors, as it prohibits them from contacting you through any means.
The court hearing is called a 341(a) Meeting of Creditors. It's likely the only court hearing you'll need to attend during your case. The court also invites your creditors. During this hearing, the court appoints a trustee to your case, and questions you under oath about your finances and assets. A trustee is an administrator for the court and is assigned to review your case. Your creditors can object to a discharge of your debt if they have legal standing. The court then spends the next few weeks or months processing your case. Finally, the court approves a discharge if everything checks out, concluding your case.
What is Chapter 13 bankruptcy?
Experts often refer to Chapter 13 as the reorganization bankruptcy branch. Chapter 13 doesn't typically provide a discharge of debt. Instead, you reorganize your debt through a repayment plan. The plan lasts three to five years, giving you time to catch up on your past-due balances.
The pros and cons of Chapter 13
Chapter 13 is ideal for people who don't meet the income requirements of Chapter 7. It's also appropriate for people on the verge of foreclosure or repossession.
Advantages of Chapter 13 include:
- Keeping your assets, including your home and car. Filing for Chapter 13 prevents creditors from pursuing these collection efforts, as it also provides an automatic stay.
- You can include all your debts in your repayment plan, even those excluded by Chapter 7.
However, there are some concerns to consider:
- Chapter 13 takes longer than Chapter 7. A Chapter 13 case can take up to five years to complete.
- You must generally repay all your debt.
- You'll experience adverse effects on your credit, as a Chapter 13 case stays on your credit report for seven years from the filing date.
- During your Chapter 13 repayment plan, you must pay ongoing fees to the trustee as well as the legal costs and court filing fees.
How to file bankruptcy Chapter 13
The process to file Chapter 13 is similar to Chapter 7, except for an additional step. Chapter 13 requires a repayment plan. As a result, you work with your bankruptcy attorney to create a plan to present to the bankruptcy trustee. The trustee must approve the plan before you proceed. Your attorney creates the repayment plan by viewing your income, monthly debts, expenses and disposable income.
The repayment plan requires making routine payments to the trustee, which cover your monthly debts. The trustee uses the payments to repay your creditors, and you keep enough money to pay for your necessities, such as groceries and gas.
A Chapter 13 case requires attending at least two court hearings. The first is the 341(a) Meeting of Creditors. The second is a confirmation hearing the court uses to approve repayment plans. Your case concludes when you successfully make all your payments to the trustee.
What is the difference between Chapter 7 and 13 bankruptcy?
Both bankruptcy branches offer debt relief. You achieve debt relief through discharging debts using Chapter 7 and a repayment plan with Chapter 13. However, these branches have several distinct differences.
You must pass the income means test to qualify for Chapter 7 bankruptcy. To pass the test, your income must be less than the average for the same household size in your state. In addition, you must provide your last few tax returns, which means you must be current on your taxes. You must also wait eight years to file if you have filed for Chapter 7 in the past. If you filed for Chapter 13 in the past, you must wait six years.
Due to the required repayment plan in a Chapter 13 case, you must have a regular monthly income to qualify for this branch. You must also present your last few tax returns to qualify, and your total debt must not exceed $2,750,000. Additionally, you can't file for Chapter 13 if you've already filed for it within the past two years or have filed for a Chapter 7 bankruptcy in the past four years.
There are times people file for bankruptcy without success. The court reviews the documents and dismisses the case. If this happens to you, you must wait 181 days before refiling for either branch.
Discharging of debts
A bankruptcy trustee is responsible for determining what debts the bankruptcy case discharges. Chapter 7 cases generally discharge unsecured debts. The discharge occurs at the end of your case. When the court discharges the debts, you are no longer responsible for paying them. You are responsible for paying debts the bankruptcy case doesn't discharge.
In a Chapter 13 case, the trustee might decide to discharge some debts (primarily unsecured debts). However, the trustee will only consider this after you complete the repayment plan. At that point, the trustee will review your debts. They might offer a discharge if you still owe money to creditors for unsecured debts, but it's not guaranteed.
Property in bankruptcy
You must list all your property when filing your bankruptcy petition. This includes cash, real estate, vehicles, investments and valuable assets. Your lawyer will classify each asset as exempt or non-exempt. Bankruptcy law lets you exempt some assets, including personal possessions and your car. The bankruptcy court can't touch exempt assets in a Chapter 7 case. However, they can seize non-exempt assets.
The court can take your home if it has a significant amount of equity in it. The court uses its discretion when determining how much is "a significant amount." Bankruptcy courts let you exempt some of your home equity through the homestead exemption, which varies by state, reducing the stated equity amount. If the court can't profit significantly from selling your home, they won't seize it. They use this standard for all assets and only seize the ones they can make a profit on quickly. Then, they sell the seized assets and use these funds to help repay your debt.
If you use Chapter 13, you must list all your assets when filing the petition. Fortunately, you won't have to surrender any assets, as your petition requires repaying your debts instead of receiving forgiveness.
Dischargeable vs. non-dischargeable debts
Dischargeable debts are debts the court will forgive during a Chapter 7 case, and unsecured debts are the most common example. The court won't discharge some debts, known as non-dischargeable debts. Court-ordered debts fall into this category. For example, the court won't forgive child support, alimony or court-ordered judgments you owe.
There are some debts the court can classify in both categories. An example of this is tax debt. Most tax debt doesn't qualify for a discharge. However, there are times it does. Student loans are another example of a debt the court may or may not discharge. You must meet specific standards for the court to approve forgiveness of these debts.
Bankruptcy doesn't offer a discharge on secured debts if you want to keep the asset tied to the loan. For example, bankruptcy won't discharge your mortgage if you want to keep the house. The same is true for a car that you owe money on.
Do you need a bankruptcy attorney?
Legal U.S. citizens can file for bankruptcy without a lawyer. People who choose this route do so to save money on legal fees. You must still pay the court filing fees. Unfortunately, filing without a bankruptcy lawyer is challenging. A Chapter 7 or 13 case requires completing numerous forms and documents. The court will dismiss your case without providing relief if you submit incomplete or incorrect documents. You'll benefit by hiring an attorney who will provide legal advice and complete the steps for you. Learn how to find a bankruptcy attorney if you want to file.
How soon can you file Chapter 13 after Chapter 7?
If you filed for Chapter 7 bankruptcy in the past, you must wait four years from your filing date before you can file for Chapter 13. The court will allow you to bypass the four-year waiting period if your Chapter 7 case doesn't provide a discharge of your debts. In this case, you can generally file for Chapter 13 immediately after filing a Chapter 7 case.
Summary of Money’s Chapter 7 vs. Chapter 13
Bankruptcy is a tool that provides debt relief to those who use it. You might qualify for either branch or for just one. Comparing Chapter 7 vs. Chapter 13 bankruptcy helps you choose the right option. Chapter 7 is ideal for low-earning households who want to keep their homes but receive debt forgiveness for medical bills and credit cards. Chapter 13 is better for high-earning households who need assistance catching up on past-due debts and want to keep their assets.