What is Bankruptcy?

Bankruptcy is a legal process which can either:

• give relief to people who cannot pay their bills by offering them the opportunity to re-establish good credit after wiping out debts they cannot afford to pay, or
   

• give people an opportunity over a period of time, from three to five years, to repay at least a portion of their debts, without having to worry about collection actions from creditors during the repayment plan period.

The first form of bankruptcy described above is called "Chapter 7" bankruptcy.

It is called Chapter 7 bankruptcy because the rules and guidelines are controlled by Chapter 7 of the U.S. Bankruptcy Code. This is the form of bankruptcy most people have heard about. Many people seek this form of protection when they find themselves under circumstances making it difficult, if not impossible, to pay their bills. It is sometimes called a "liquidation" because, if you have more than minimal assets, some of your property might wind up being sold to pay off creditors. A Chapter 7 bankruptcy is more suitable for people with no or few assets, little or no secured debt, or for people who have secured debts, such as car loans or mortgage payments, which are current. See the section below titled Chapter 7 (Straight Bankruptcy).

The second form of bankruptcy is called "Chapter 13" bankruptcy.

It is so-called because the rules and guidelines are controlled by Chapter 13 of the U.S. Bankruptcy Code. This form of bankruptcy is commonly referred to as "debt adjustment", or the "wage earner’s" bankruptcy, although any kind of steady and reliable source of income will qualify one to choose this option. What Chapter 13 allows people to do is to come up with a plan to repay past due debts. In general, the people most interested in the Chapter 13 bankruptcy option have fallen seriously behind in a secured debt such as a mortgage payment or car loan. Chapter 13 permits the person to "cure" the default in payments, and to keep his or her property without further worry about foreclosure or repossession. The catch with Chapter 13 is that the person must keep current on current expenses, debts, and payments and the person must have enough money left over each month to pay a portion of the past due amounts on the debts upon which the person had fallen behind. See the section below titled Chapter 13 (Debt Adjustment).

Should I File Bankruptcy?

Because the law of bankruptcy has become increasingly more complicated, it is not advisable for any person to undertake such a serious step without first obtaining legal counsel. Everyone’s circumstances are different. For some people, bankruptcy is not helpful or appropriate. For others, it can be a very useful legal tool. For those who need a bankruptcy, there may be reasons to file immediately, such as when necessary to save something important, such as your home, car, or utility service. For yet others, bankruptcy should be considered, but filing for bankruptcy should be delayed for one or more reasons, such as when you expect to go deeper into debt.

Some people have some common misconceptions about bankruptcy. For example, it is not true that you will lose all your property in a bankruptcy. You won’t. Also, it is not true that the law prohibits you from acquiring property or credit after a bankruptcy. You can. If you re-establish good credit after a bankruptcy, and pay debts as they come due, you can even qualify for a FHA or VA mortgage just 2 years after a Chapter 7 discharge. Likewise, you cannot be fired from your job or be denied employment because you filed for bankruptcy. On the other hand, in most cases, it is not necessary to file for bankruptcy to stay out of prison. You cannot be put in jail because you cannot pay all of your bills.

Some people incorrectly see bankruptcy as a lazy cop-out, an easy way out, or just a little bit immoral. It is none of those things. Bankruptcy is your right under the law, provided for in the Constitution, and is intended to provide a fresh start for people. Big corporations and famous people have not hesitated to use this right.

What can Bankruptcy Do For Me?

Some of the advantages of bankruptcy include:

Some Reasons Not to File Bankruptcy

Some of the reasons not to file a bankruptcy include:

You don’t really owe a large debt. If you only have limited debt, or if you have defenses to debts which creditors claim you owe, you might have other options other than filing for bankruptcy. For example, you could bring or defend a court case to challenge the existence of the debt.

All of your property is "exempt". If all of your property is exempt anyway, it may be desirable, but not always necessary, to file for bankruptcy to protect it.

You might lose your non-exempt property. In a Chapter 7 bankruptcy, if you have substantial assets over and above the exemption limits, they will be turned over to a bankruptcy trustee and sold to pay off your creditors.

The effect on your credit. Bankruptcy will have some affect on your credit profile. A bankruptcy filing can stay on your credit report for ten (10) years. Even if you file bankruptcy, find another alternative, and decided to dismiss your bankruptcy petition, the filing can be, and probably will be, on your credit report for up to ten years. On the other hand, the effect of such a report on your future credit is not always predictable. If you have substantial debts for which you are in default, you already have a poor credit history. A bankruptcy that wipes the slate clean may be seen by some creditors as an improvement, and you might still be able to get credit.

The cost of filing for bankruptcy. See section below on costs.

Bankruptcy may not offer help in your situation, or may hurt you. In some cases, a bankruptcy will hasten loss of property rather than prevent it, or your major debts may be of the type that are not dischargeable.

You expect to continue to go deeper into debt. In this situation, it might be best to wait before filing for bankruptcy until you have accrued all of the debt that you foresee.

What Type of Bankruptcy Should I Consider?

There are four types of bankruptcy cases:

• Chapter 7: Straight Bankruptcy or "Liquidation". See the following section.

• Chapter 13: Debt Adjustment. See following section.

• Chapter 11: Reorganization. This is used by businesses and a few individual debtors whose debts are very large.

• Chapter 12: This is reserved for family farmers.

This pamphlet has been prepared to provide those seeking information relating to personal bankruptcy, i.e., Chapter 7 and Chapter 13 bankruptcies. If you are a family farmer or your problems relate to business bankruptcy, we would counsel and advise you to seek an attorney knowledgeable in bankruptcy and in the type of business in which you are engaged.

Chapter 7 (Straight Bankruptcy)

The debtor must give up property which exceeds exemptions, so the property can be sold to pay creditors. In this type of case, you file a petition asking the court to discharge your debts. The basic idea is to wipe out (discharge) those debts in exchange for your giving up non-exempt property. You can always keep your exempt property.

Because the property of low-income consumers is almost always entirely exempt, a Chapter 7 bankruptcy is usually the option of choice. However, if you want to keep secured property like a home or a car, and you are behind on the payments for your mortgage or car loan, a Chapter 7 case probably will not be the right choice (unless you can pay off the arrearage or the property’s value to the creditor). This is because Chapter 7 bankruptcy does not eliminate the right of secured creditors like mortgage holders or car loan creditors to take your property to cover your debt.

Chapter 13 (Debt Adjustment)

In a Chapter 13 case, you file a plan showing how you will pay off some of your past-due and current debts over a three to five year period. The most important thing about a Chapter 13 case is that it will allow you to keep valuable property — especially your home and car— which might otherwise be lost, if you can make the payments in the plan. There are some requirements for what must be in the plan. Certain types of debts considered priority must be paid in full by the end of the plan. Other debts need only be partially paid off or not paid at all. In most cases, all of your disposable income will be applied to your plan payments for the duration of the plan. However, a Chapter 13 can lower monthly payments to certain creditors and perhaps even the balance due.

You should consider filing a Chapter 13 plan if you:

1. own your own home or car and are in danger of losing them because of money problems;

2. are behind on debt payments, but can catch up if given some time;

3. have valuable property which is not exempt, but you can afford to pay creditors from your income over a period of time.

Will Bankruptcy Wipe Out All of My Debts?

Every person considering filing bankruptcy, whether Chapter 7 or Chapter 13, must be aware that some debts are not and cannot be charged in bankruptcy. Examples of these debts are:

What Does It Cost to File for Bankruptcy?

In 1998, the filing fee for Chapter 7 bankruptcy is $175, and the filing fee for Chapter 13 bankruptcy is $160. The court may allow you to pay this filing fee in installments. However, in general, plan on receiving no more than three months to pay for the filing fee in installments in a Chapter 7 bankruptcy.

Additionally, your attorney may be willing to accept payment of his or her fee in installments. If you agree to an installment payment plan, make sure that the agreement is in writing. In general, for a Chapter 7 bankruptcy, the attorney will expect that you will have paid his fee in full, along with the filing fee, no later than the first meeting of creditors. That is about six (6) weeks after your bankruptcy petition is filed.

What Property Can I Keep?

In a Chapter 7 case, you can keep all property which the law says is exempt from the claims of creditors. (For more on exemptions, see Prairie State’s booklet, "When You Owe Money".) If your property is only slightly above the exemption amounts, the bankruptcy trustee may not consider it worth selling and may allow you keep that as well.

What Will Happen to My Home and Car if I File Bankruptcy?

In most cases, you will not lose your home or car during your bankruptcy case as long as your equity in the property is fully exempt, and you can keep up with payments. (Your "equity" is determined by subtracting the balance owed on the property from its present value). In a Chapter 7 case, you can avoid making payments on the debt by paying the creditor an amount that the property you want to keep is worth. This is a good option where the item is of low value. Even if your property is not fully exempt, you will be able to keep it, if you file a Chapter 13 and you make the required payments under the Plan. However, if you don’t make your payments on the debt, the creditor may be able to take and sell the home or the property, during or after the bankruptcy case.

Can I Own Anything After Bankruptcy?

Will I Have to Go to Court?

In most cases, you will only have to attend a meeting called the "first meeting of creditors." This is an odd name, because usually, no creditors show up at the meeting. You will be there, and so will your attorney and the representative of the bankruptcy court called the Trustee. The Trustee is the investigator. He or she checks your petition and other forms, and checks to be sure that what you have put in them is the truth.

The trustee has a legal duty to honestly report to the bankruptcy judge, and a legal duty to make sure that the rights of both the creditors and the debtor are protected. As long as you have been truthful, and have not misled the court, the trustee or your attorney about your circumstances, there is very little for you to do in a bankruptcy case. The hardest part for you will be in reaching the decision to file bankruptcy and to provide the information your attorney needs to file the forms. After that, you will only have to go to the meeting of creditors. This is a short meeting, lasting between 3 and 30 minutes. In general, as long as you have been honest with your attorney, even if a complication arises, you still will not have to go to any further court proceedings.

Will Bankruptcy Affect my Credit?

There is no clear answer to this question. Unfortunately, if you are behind on your bills, your credit may already be bad. Bankruptcy will probably not make things any worse.

The fact that you’ve filed a bankruptcy can appear on your credit record for 10 years. But since bankruptcy wipes out your old debts, you are likely to be in a better position to pay your current bills, and you may be able to get new credit.

Your Bankruptcy Attorney and Other Kinds of Representation

Look for a lawyer who will respond to your personal situation. He or she should not be too busy to meet with you and answer your questions. Ask family, friends or other members of the community, especially any attorney you know and respect, for recommendations. You should carefully read all documents the attorney asks you to sign. If you are not sure what something means, ask! You should not hire an attorney unless he or she agrees to represent you throughout your case.

If you retain an attorney, you have the right to have any agreement you have with the attorney put into writing, i.e., the costs you must pay for the bankruptcy, how much the attorney will be paid, how long you have to pay for the filing fee and attorney fees, and what the attorney will do for you.

Remember that in bankruptcy, as in all areas of life, the person advertising the cheapest rate is not necessarily the best. Many of the best bankruptcy lawyers do not advertise at all.

When first meeting a bankruptcy attorney, you should be prepared to answer the following questions:

Paying for debt counseling is almost never a good idea. There is almost nothing that a paid debt counselor can offer other than a recommendation about whether bankruptcy is appropriate and a list of highly priced debt consolidation lenders. There is no good reason to pay someone for this service. A good attorney can help you decide whether bankruptcy is the best option. This avoids the double charge of having to pay a counselor and then an attorney. If bankruptcy is not the right answer for you, a good attorney will offer a range of other suggestions.

Can I File for Bankruptcy Without an Attorney?

Bankruptcy law practice has become increasing complex. There are a record number of people seeking protection from creditors. Credit card companies especially have been lobbying to make the rules even more complicated than they already are. Because requirements for bankruptcy filing have become challenging, we cannot recommend that any person without a law degree handle such a personally challenging legal problem.

About Prairie State Legal Services

Prairie State Legal Services provides free legal services to low income persons and senior citizens with civil legal problems. Prairie State serves people regardless of race, religion, color, age, sex, disability, language, or national origin. To see if you are eligible for Prairie State’s services, call your local office  You can follow this link to find the Prairie State office nearest you.

Prairie State Legal Services acknowledges the work of the National Consumer Law Center, Boston, MA. which developed some of the original material adapted for this publication.