BANKRUPTCY LAW SUMMARY
Bankruptcy is a legal status of a person or other entity that cannot repay the debts it owes to creditors. In most jurisdictions, bankruptcy is imposed by a court order, often initiated by the debtor.
Bankruptcy is not the only legal status that an insolvent person or other entity may have, and the term bankruptcy is therefore not a synonym for insolvency. In some countries, including the United Kingdom, bankruptcy is limited to individuals, and other forms of insolvency proceedings (such as liquidation and administration) are applied to companies. In the United States, bankruptcy is applied more broadly to formal insolvency proceedings.
Bankruptcy in the United States is a matter placed under federal jurisdiction by the United States Constitution (in Article 1, Section 8, Clause 4), which empowers Congress to enact "uniform Laws on the subject of Bankruptcies throughout the United States". The Congress has enacted statutes governing bankruptcy, primarily in the form of the Bankruptcy Code, located at Title 11 of the United States Code. Federal law is amplified by state law in some places where Federal law fails to speak or expressly defers to state law.
While bankruptcy cases are always filed in United States Bankruptcy Court (an adjunct to the U.S. District Courts), bankruptcy cases, particularly with respect to the validity of claims and exemptions, are often dependent upon State law. One example: two states, Maryland and Virginia, which are adjoining states, have different personal exemption amounts that cannot be seized for payment of debts. This amount is the first $6,000 in property or cash in Maryland, but only the first $5,000 in Virginia. State law therefore plays a major role in many bankruptcy cases, and it is often not possible to generalize bankruptcy law across state lines.
Generally, a debtor declares bankruptcy to obtain relief from debt, and this is accomplished either through a discharge of the debt or through a restructuring of the debt. Generally, when a debtor files a voluntary petition, his or her bankruptcy case commences.
- Chapter 7: basic liquidation for individuals and businesses; also known as straight bankruptcy; it is the simplest and quickest form of bankruptcy available
- Chapter 9: municipal bankruptcy; a federal mechanism for the resolution of municipal debts
- Chapter 11: rehabilitation or reorganization, used primarily by business debtors, but sometimes by individuals with substantial debts and assets; known as corporate bankruptcy, it is a form of corporate financial reorganisation which typically allows companies to continue to function while they follow debt repayment plans
- Chapter 12: rehabilitation for family farmers and fishermen;
- Chapter 13: rehabilitation with a payment plan for individuals with a regular source of income; enables individuals with regular income to develop a plan to repay all or part of their debts; also known as Wage Earner Bankruptcy
- Chapter 15: ancillary and other international cases; provides a mechanism for dealing with bankruptcy debtors and helps foreign debtors to clear debts.
The most common types of personal bankruptcy for individuals are Chapter 7 and Chapter 13. Whether a person qualifies for Chapter 7 or Chapter 13 is in part determined by income. As much as 65% of all U.S. consumer bankruptcy filings are Chapter 7 cases. Corporations and other business forms file under Chapters 7 or 11. Often called "straight bankruptcy" or "simple bankruptcy," it allows consumers to eliminate just about all of their debts over a period of three or four months. Typically, the only bills that survive a Chapter 7 are student loans, child support obligations, some tax bills and criminal fines. Credit cards, pay day loans, personal loans, medical bills, and just about all other bills are discharged.
Ninety-one percent of U.S. individuals who enter bankruptcy hire an attorney to file their Chapter 7 petitions. The typical cost of an attorney is $1,170.00. Alternatives to filing with an attorney are: filing pro se (that is, without an attorney, which requires an individual to fill out at least sixteen separate forms), hiring a non-lawyer petition preparer, or using online software to generate the petition.
In Chapter 7, a debtor surrenders his or her non-exempt property to a bankruptcy trustee who then liquidates the property and distributes the proceeds to the debtor's unsecured creditors. In exchange, the debtor is entitled to a discharge of some debt; however, the debtor will not be granted a discharge if he or she is guilty of certain types of inappropriate behavior (e.g., concealing records relating to financial condition) and certain debts (e.g., spousal and child support, most student loans). Some taxes will not be discharged even though the debtor is generally discharged from his or her debt. Many individuals in financial distress own only exempt property (e.g., clothes, household goods, an older car, or the tools of their trade or profession) and will not have to surrender any property to the trustee. The amount of property that a debtor may exempt varies from state to state (as noted above, Virginia and Maryland have a $1,000 difference.) Chapter 7 relief is available only once in any eight-year period. Generally, the rights of secured creditors to their collateral continues even though their debt is discharged. For example, absent some arrangement by a debtor to surrender a car or "reaffirm" a debt, the creditor with a security interest in the debtor's car may repossess the car even if the debt to the creditor is discharged.
The 2005 amendments to the Bankruptcy Code introduced the "means test" for eligibility for chapter 7. An individual who fails the means test will have his or her chapter 7 case dismissed or may have to convert his or her case to a case under chapter 13.
Generally, a trustee will sell most of the debtor's assets to pay off creditors. However, certain assets of the debtor are protected to some extent. For example, Social Security payments, unemployment compensation, and limited values of equity in a home, car, or truck, household goods and appliances, trade tools, and books are protected. However, these exemptions vary from state to state.
In Chapter 13, the debtor retains ownership and possession of all of his or her assets, but must devote some portion of his or her future income to repaying creditors, generally over a period of three to five years. The amount of payment and the period of the repayment plan depend upon a variety of factors, including the value of the debtor's property and the amount of a debtor's income and expenses. Secured creditors may be entitled to greater payment than unsecured creditors.
Relief under Chapter 13 is available only to individuals with regular income whose debts do not exceed prescribed limits. If the debtor is an individual or a sole proprietor, the debtor is allowed to file for a Chapter 13 bankruptcy to repay all or part of the debts. Under this chapter, the debtor can propose a repayment plan in which to pay creditors over three to five years. If the monthly income is less than the state's median income, the plan will be for three years unless the court finds "just cause" to extend the plan for a longer period. If the debtor's monthly income is greater than the median income for individuals in the debtor's state, the plan must generally be for five years. A plan cannot exceed the five-year limitation.
In contrast to Chapter 7, the debtor in Chapter 13 may keep all of his or her property, whether or not exempt. If the plan appears feasible and if the debtor complies with all the other requirements, the bankruptcy court will typically confirm the plan and the debtor and creditors will be bound by its terms. Creditors have no say in the formulation of the plan other than to object to the plan, if appropriate, on the grounds that it does not comply with one of the Code's statutory requirements. Generally, the payments are made to a trustee who in turn disburses the funds in accordance with the terms of the confirmed plan.
When the debtor completes payments pursuant to the terms of the plan, the court will formally grant the debtor a discharge of the debts provided for in the plan. However, if the debtor fails to make the agreed upon payments or fails to seek or gain court approval of a modified plan, a bankruptcy court will often dismiss the case on the motion of the trustee. Pursuant to the dismissal, creditors will typically resume pursuit of state law remedies to the extent a debt remains unpaid.
In Chapter 11, the debtor retains ownership and control of assets and is re-termed a debtor in possession (DIP). The debtor in possession runs the day-to-day operations of the business while creditors and the debtor work with the Bankruptcy Court in order to negotiate and complete a plan. Upon meeting certain requirements (e.g., fairness among creditors, priority of certain creditors) creditors are permitted to vote on the proposed plan. If a plan is confirmed the debtor will continue to operate and pay its debts under the terms of the confirmed plan. If a specified majority of creditors do not vote to confirm a plan, additional requirements may be imposed by the court in order to confirm the plan. Debtors filing for Chapter 11 protection a second time are known informally as "Chapter 22" filers.
Chapter 7 and Chapter 13 are the efficient bankruptcy chapters often used by most individuals. The chapters which almost always apply to consumer debtors are chapter 7, known as a "straight bankruptcy", and chapter 13, which involves an affordable plan of repayment. An important feature applicable to all types of bankruptcy filings is the automatic stay. The automatic stay means that the mere request for bankruptcy protection automatically halts most lawsuits, repossessions, foreclosures, evictions, garnishments, attachments, utility shut-offs, and debt collection activity.
A Bankruptcy Exemption defines the property a debtor may retain and preserve through bankruptcy. Certain real and personal property can be exempted on "Schedule C" of a debtor's bankruptcy forms, and effectively be taken outside the debtor's bankruptcy estate. Bankruptcy Exemptions are available only to individuals filing bankruptcy. There are two alternative systems that can be used to "exempt" property from a bankruptcy estate, Federal Exemptions (available in some states but not all), and State Exemptions (which vary widely between states).
Individuals filing bankruptcy that claim exemptions must have all exemptions agreed upon by their bankruptcy judge (and/or courts) and by their creditors. This step usually requires the help of lawyers, in which the sector of Bankruptcy Law has grown to become a large section of the law field. That said, new software providers are beginning to develop products letting consumers operate without an attorney. This sector, the combination of law and finance, has attracted a large number of students in recent years, and has been given a large undertaking for growing the law sector.