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Bankruptcy

Bankruptcy is the legal status for an individual or company unable to pay off outstanding debt. It is a status that can only be granted by a state or federal court.

Generally, personal bankruptcy is considered a last resort for people inundated with loans or bills. Although going bankrupt is an effective way to wipe out most or all debt obligations, there are long-lasting consequences.

Bankruptcy will negatively affect your credit and future ability to use money. It may prevent or delay foreclosure on a home and repossession of a car. It can also stop wage garnishment and other legal actions of creditors attempting to collect debts.

In addition, filing for bankruptcy can be a complex and costly process. Experts suggest investigating other options seriously before considering bankruptcy.

Bankruptcy in the United States

There were 1,221,091 bankruptcy filings in 2012, a 13 percent drop from 2011. Still, that is four times as many as there were in 1980. There was a steady climb that peaked in 2005, with 2.08 million bankruptcies, and the number has gone up and down since then.Bankruptcy Filings in the United States by Year
Total Number of Bankruptcy Filings by Year

The percentage of bankruptcies filed by consumers also has risen. In the early 1980s, consumer filings made up about 82 to 87 percent of all bankruptcy filings. By 2012, this had risen to 97 percent, meaning businesses made up only 3 percent of the bankruptcy filings.

Consequences of Bankruptcy

The overriding principle of bankruptcy is that it wipes away debt — sometimes all debt, many times a portion of it. All the other consequences are negative impact, especially as it concerns your credit score.

Bankruptcy remains on your credit report for 7 to 10 years, depending upon which chapter of bankruptcy you file under. For example, Chapter 7 (the most common) is on your credit report for 10 years, while a Chapter 13 filing (second most common) is there for seven years.

During this time, it could prevent you from obtaining new lines of credit and may even cause problems when you apply for jobs.

If you are considering bankruptcy, your credit report and credit score are probably already considerably damaged. So, your credit report may not endure significantly more damage, especially if you consistently pay your bills after declaring bankruptcy.

Still, because of the long-term effects of bankruptcy, some experts believe it may be beneficial only if you have more than $15,000 in debts.

Where Bankruptcy Doesn’t Help

Bankruptcy does not necessarily erase all financial responsibilities.

 It typically does not discharge the following types of debts and obligations:
  • Alimony
  • Child Support
  • Debts that arise after bankruptcy is filed
  • Some debts incurred in the six months prior to filing bankruptcy
  • Loans obtained fraudulently
  • Debts from personal injury while driving intoxicated
  • Debts from willful and malicious injuries to person or property
  • Some student loans
  • Some taxes

It also does not protect those who co-signed your debts. Your co-signer agreed to pay your loan if you didn’t or couldn’t pay. So when you declare bankruptcy, your co-signer still may be legally obligated to pay all or part of your loan.

Filing for Bankruptcy

Before you file for bankruptcy, you are almost always required to receive credit counseling within 180 days before filing your case. You must obtain counseling from one of the approved providers listed on the United States Courts website.

While very few counselors are approved for this purpose, most offer online or telephone counseling sessions and do not require you to travel.

After you receive the necessary credit counseling, look into hiring a lawyer to help you file your claim. Legal counsel is not a requirement for individuals filing for bankruptcy, but the U.S. government strongly urges you to seek the advice of an attorney.

If you cannot afford to hire an attorney, you may have options for free legal services. If you need help finding a lawyer or locating free legal services, check with the American Bar Association for resources and information.

Before you prepare to file for bankruptcy, keep in mind that the process must be completed in a federal court rather than a state court and can cost several hundred dollars in fees.

Exactly how you proceed depends on the type of bankruptcy you choose to file.

Types of Bankruptcy

There are several types of bankruptcy for which individuals or married couples can file, the most common being Chapter 7 and Chapter 13.

Chapter 7 Bankruptcy

Chapter 7 bankruptcy filings make up about 70 percent of non-business bankruptcy cases, and under this your debts are discharged and you are no longer responsible for repaying them.  Some of your assets may be sold by a court-appointed bankruptcy trustee. The proceeds go towards paying the trustee, covering administrative fees and, if funds allow, repaying your creditors as much as possible.

You are allowed to keep key assets, but property exemptions vary from state to state. You may choose to follow either state law or federal law, which may allow you to keep more possessions.

Under federal law, you are typically entitled to $16,500 in equity in your home and $2,575 in equity in your car, as well as certain less valuable items like household items and job-related tools. If you jointly file as a married couple, these amounts double.

You also retain your right to receive pension, Social Security, unemployment, veteran benefits and welfare.

Chapter 13 Bankruptcy

Chapter 13 bankruptcies make up for about 30 percent of non-business bankruptcy filings. A Chapter 13 bankruptcy involves repaying some of your debts to have the rest forgiven.  This is an option for people who do not want to give up their property or do not qualify for Chapter 7 because their income is too high.

People can only file for bankruptcy under Chapter 13 if their debts do not exceed a certain amount. The specific cutoff is reevaluated periodically, so check with a lawyer or credit counselor for the most up-to-date figures.

Under Chapter 13, you must design a three- to five-year repayment plan for your creditors. Once you successfully complete the plan, the remaining debts are erased.

However, most people do not successfully finish their plans. When this happens, debtors may then choose to pursue a Chapter 7 bankruptcy instead. If they don’t, creditors then can resume their attempts to collect the full owed balance.

In addition to Chapter 7 and Chapter 13 bankruptcies, there are four other types of bankruptcy. They are rarely used, but they are:
  • Chapter 9: Chapter 9 may only be applied to municipalities such as cities or towns and allows for their reorganization.
  • Chapter 11: Chapter 11 is the third most common type of bankruptcy filing, with 1,757 filings in 2011. This chapter is almost always used to reorganize businesses but may be used by individuals as well.
  • Chapter 12: Chapter 12 is used exclusively to adjust the debts of a family farmer or family fisherman.
  • Chapter 15: Chapter 15 applies to cross-border cases, in which the debtor has assets and debts both in the United States and elsewhere.

Other Options

Most people consider bankruptcy only after they pursue debt consolidation or debt settlement. These options can help you get your finances back on track and won’t negatively impact your credit as much as a bankruptcy.

Debt consolidation combines all your loans to help you make regular and timely payments on your debts. Debt settlement is a means of negotiating with your creditors to lower your balance. If successful, it directly reduces your debts.

To learn more about bankruptcy and other debt-relief options, seek advice from a local credit counselor or read the Federal Trade Commission’s informational pages.

Al Krulick

Author

Al Krulick

Staff Writer

Al is an award-winning journalist with dozens of years of writing experience. He served as a drama critic, high school teacher, arts administrator, theatrical producer and director. He also dabbled in politics, running twice for a seat on the U.S. House of Representatives for Florida. Al is a Certified Debt Specialist with the International Association of Professional Debt Arbitrators and specializes in real estate, credit and bankruptcy advice.

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