Does Bankruptcy Clear All Debt?

Does bankruptcy clear all debt is a simple question that ought to have a simple answer, don’t you think? But sadly, it doesn’t, unless you find the clarity you seek in answers like these:

Maybe.

Not exactly.

They might.

It depends.

In other words, not always yes and not always no.

That isn’t simple. That isn’t clear. Sorry to disappoint you.

Bankruptcy is gnarly. It might wipe out your unpaid credit card balances along with some other debts hounding you month after month, but there are some long-term negatives you should consider. Those negatives include up to 10 years of damage to your credit score, loss of your credit cards and luxury possessions, difficulty obtaining a mortgage, and more.

Depending on the state of your money trouble, that could be the right way to go. But …

“Expect it to not be easy,” says Melanie Musson, a finance expert with Clearsurance.com. “Don’t assume that bankruptcy will solve your problems. It may be your only option, but it will be tough.”

Expect it to be confusing, as well as “not easy.” A different question to have answered is: If I declare bankruptcy, will all MY debts disappear?

Why is that a better question? Because ‘all’ debts and ‘my’ debts aren’t the same thing. Debts are different and so are bankruptcies. As Musson suggests, you can’t take for granted that filing for it will wipe out your every last overdue bill.

For example, credit card debt, medical bills, and personal loans can be eliminated through bankruptcy, and if those are the only debts you’re carrying, then your debts will be wiped out.

But if you’re saddled with other kinds of debt such as student loans, back taxes, alimony, or child support, or if you didn’t make many good-faith efforts to pay off your bills before you filed for bankruptcy, your debts won’t disappear.

That’s part of the reason it’s important to understand the difference between a Chapter 7 bankruptcy and a Chapter 13 bankruptcy. Each can clear some debts but not others.

As you’re considering bankruptcy, you’ll want to know:

• Exactly how much will it reduce the total amount you owe?
• How long will it take to do it?
• How much of your property will you have to forfeit during the process?

That knowledge might get you rethinking your reluctance about other ways to find relief from your debt, which we’ll explore a little later.

So read on. We’ll offer more meaningful answers than maybe, not exactly, they might, and it depends. Our answers might not be as simple as you’d like, but they’ll help you make better decisions about managing out-of-control overdue bills.

What is Clearing Debt or Debt Discharge?

This is what bankruptcy does: It makes the elimination of at least some of your financial obligations legal. A successful bankruptcy comes with a court-ordered document called a Discharge of Debtor, commonly known as a debt discharge, which relieves you of the requirement to pay the remaining balances on certain kinds of debt and prohibits the people to whom you owe that money from continuing to try to collect it from you.

A formal debt discharge is the endgame in the bankruptcy process. It means you’ve met all the stipulations the legal system requires to approve your bankruptcy. Once you have the document, you’re free and clear of at least some of your debt and you can start moving your personal finances in a positive, upward direction away from the rock-bottom state that drove you to petition for bankruptcy.

Your Discharge of Debtor certificate will be unique to your situation. Debt discharges differ depending on the type of bankruptcy you file (in most cases, it will be either Chapter 7 or Chapter 13) and the kind of debt from which you need relief. Bankruptcy courts consider a number of factors on a case-by-case basis to determine what to include in the discharge document, such as your specific financial circumstances, your employment history, the value of your current assets, how you racked up the debt you’re carrying, and the strength of your attempts to repay those debts before you filed the bankruptcy petition.

Then, after all that, the court can still only relieve you of debts that legally qualify to be discharged. In other words, forget about clearing any alimony or child support debt, or debts you owe for taxes or because of personal injuries you caused while you were driving under the influence. In most cases, bankruptcy won’t help you with them.

By the way, you aren’t the only person who will receive the discharge document. The court will also send it to your creditors, your attorney (if you have one), the trustee on your case, and the trustee’s attorney (if he or she has one).

Bankruptcy – Chapter 7 vs. Chapter 13

Chapter 7 (60%) and Chapter 13 (39%) make up 99% of all bankruptcies filed. There are two primary differences between Chapter 7 and Chapter 13 bankruptcy. The first is the level of your indebtedness. The second is your property and what happens to it.

You have to meet a number of economic standards to file a Chapter 7 bankruptcy, meaning either your income is below the median level for your state or a court decides your expenses compared to your income make it impossible for you to repay your debts. Then, when you’ve qualified to file, a court-appointed trustee will liquidate (sell) most of your non-essential assets to pay off as many of your debts as possible before the bankruptcy court can clear the rest that is eligible for discharge. Generally, that process can be completed in about six months.

If your financial straits aren’t dire enough to qualify for Chapter 7, your next option is Chapter 13. It takes longer to resolve (usually, 3-5 years) but protects more of your property.

In Chapter 13 bankruptcy, you work with the court and a trustee to come up with a plan to make monthly repayment installments that get distributed to your creditors. You won’t be required to sell your assets as long as you stay on time with the monthly installments, but your debts won’t be formally discharged until the end of the 3–5-year plan.

“Chapter 13 is for people who want to keep their assets and can manage a structured repayment plan,” says Joseph Camberato, the founder and CEO of NationalBusinessCapital.com, a leading lending platform. “Chapter 7 is more of a reset. It wipes out a lot of debt, but you may have to give up some assets in the process. If you have a reasonable amount of debt but just need more time, Chapter 13 might make sense. If the debt is overwhelming and there’s no realistic way to pay it back, Chapter 7 might be the better move.”

Most debts that can’t be discharged under Chapter 7 also can’t be cleared under Chapter 13. However, some debts are only eligible for relief in Chapter 13 bankruptcy. They include debts incurred for intentionally damaging someone else’s property, certain debts from property settlements in a divorce or separation, and debts for liens on property such as car loans or mortgages.

Clearing Debt in Chapter 7

Chapter 7 is sometimes called the “fresh start” bankruptcy because it’s a cleaner, quicker way to begin to recover from debilitating debt than Chapter 13 is. Over a matter of a few months, you take a required credit counseling course, file paperwork with the court that lists your creditors and notifies them of your bankruptcy petition, let a court-appointed trustee sell off your non-exempt assets to partially repay your creditors, and get the debt discharge document that clears the rest of your eligible debt. In theory, at least, that should provide in relatively short order the opportunities you need to re-vamp your budget (or just ‘vamp’ it, if you don’t already have a budget), set new financial goals, and begin to rebuild your credit.

The bright side: The exempted assets you get to keep generally include your primary home and car, clothing and tools essential for your job, and your Social Security benefits, among others. But one of the Chapter 7 downsides is the loss of non-exempt assets such as a second home, a second car, an RV, your valuable collectibles, and even bank and investment accounts.

“Don’t think of Chapter 7 as a ‘get-out-of-jail-free’ card,” says Camberato. “You took on these debts with the intention of paying them back, and you should stick to that. Bankruptcy is a last resort that can help get your life back on track after unforeseen circumstances.”

Remember what we said earlier: Bankruptcy is gnarly, even the “fresh start” kind. Still, Chapter 7 can clear many of the most common debts that drive people to the bottom of a debt spiral.

Types of Debt Cleared in Chapter 7

The Discharge of Debtor document you receive at the end of the Chapter 7 process won’t itemize the individual debts your successful bankruptcy has canceled. Instead, it will describe the categories of your debt that have been discharged.

Because your creditors were notified about your bankruptcy petition early on in the process and also received the discharge document at its conclusion, they’ll know they can no longer expect repayment for the specific debt they’re owed.

The categories of debt that can be discharged in Chapter 7 include:

• Credit card balances (including overdue and late fees)
• Collection agency accounts
• Medical bills
• Personal and payday loans (unsecured)
• Mortgage or automobile loans for which you are unable to pay (although creditors can reclaim the house or vehicle)
• HOA fees (if you surrender the home or condo)
• Utility bills
• Civil court judgments (not based on fraud)
• Social Security overpayments
• Veterans’ assistance loans and overpayments

Remember, though, that when the court rules, it takes your unique financial circumstances into account along with your documented effort (or lack thereof) to pay back your creditors before you file for bankruptcy. That could interfere with some otherwise-eligible discharges. The court could look askance at your request for relief from debts such as credit card purchases you made under false pretenses or if it discovers you lied about your finances.

One other possible hiccup between you and a clean slate is the paperwork Chapter 7 requires. If you don’t keep up with it or if you fill out the forms incorrectly, your Discharge of Debtor document can be delayed. Plus, you can only expect discharges of debt you list at the beginning of the bankruptcy process. Forgot one? You’ll be out of luck.

Clearing Debt in Chapter 13

Chapter 13 bankruptcy comes with its own hoops through which you have to jump before your debts are discharged. In Chapter 13, you must prepare a repayment plan that satisfies both the bankruptcy court and your creditors and then work with a court-appointed trustee to get those regular payments distributed.

Part of the repayment plan for discharging Chapter 13 debt allows you to catch up on secured accounts on which you are in arrears, such as your home or car, during the 3-5 year time period before the discharge document clears your unsecured debts such as credit cards. That means you can keep your home from foreclosure. In fact, as long as your repayment plan provides your creditors an amount equal to the value of your non-exempt property, you can keep it all In Chapter 13.

You must also obtain certification that you’ve met all your domestic support obligations (child support, alimony), which can’t be forgiven in a discharge. And at some point, during the repayment period, you need to complete a course in financial management designed, obviously, to provide financial education that will keep you from needing to file another bankruptcy petition.

When you’ve finished the repayment plan, your debts (with a few non-eligible exceptions which we’ll itemize later) will be discharged.

Types of Debt Cleared in Chapter 13

There is an overlap between Chapter 13 and Chapter 7 in the categories of debt that can be discharged, mostly involving unsecured debts such as credit card balances, medical bills, personal loans, payday loans, and utility bills.

But there are some kinds of debt that only Chapter 13 can clear, including:

• Debts from property you are assigned in a divorce or separation
• Penalties, fines, and forfeitures you owe to a government agency
• Debts incurred via damage you caused to another person’s property regardless of whether it was intentional or accidental
• Tax obligations that created debt through your use of a credit card to pay them
• Homeowners’ dues in some cases if your Chapter 13 repayment plan includes the loss of your home
• Debts created by violations of securities law
• Court fees charged to a prisoner for certain legal filings
• Liens on a mortgage or car loan if certain conditions are satisfied

If for some unforeseen reason, you aren’t able to complete the Chapter 13 repayment plan, you can apply for a hardship discharge. They aren’t commonly granted, but a successful hardship application can get you an early discharge of eligible unsecured debts as long as the creditors on those debts have received at least as much as a Chapter 7 liquidation would have brought them.

Debts That Cannot Be Cleared in Bankruptcy

As we mentioned earlier, it’s possible for bankruptcy to clear all your unsecured debts such as credit cards, medical bills, and personal loans. If those are the only things that drove you to file, then bankruptcy might eliminate all your debt.

But neither Chapter 7 nor Chapter 13 will result in a discharge of everything.

Among the debts that can’t be cleared in bankruptcy are:

• Child support
• Alimony
• Debts for injuries you maliciously or willfully caused another person
• Debts incurred for accidents you cause while driving under the influence
• Most tax debts
• Court fines
• Most student loans

The student loans issue has been something of a political football over the past few Presidential administrations. In 2022, the government released new bankruptcy guidelines that created some wiggle room for dischargeable student loans in hardship cases.

But the new Trump Administration’s efforts to reorganize the Justice Department and the Department of Education, both of whom published the 2022 revisions, might walk those rules back.

“There have been a few cases where people have been able to get their student loans forgiven by bankruptcy,” says Jay Zigmont, a certified financial planner and founder of Childfree Wealth, “but it has been rare and is always fought by the government … We are unlikely to see any progress on student loan forgiveness in the near future.”

Debt Relief Options for Uncleared Debt

Before you declare any kind of bankruptcy, be certain it’s the only way out of your debt spiral. In light of the damage bankruptcy can do to your credit and your future financial opportunities, its description as a ‘last resort’ is accurate. That’s especially true because there are alternatives you can, and should, explore first.

“Bankruptcy doesn’t just erase debts,” says Clearsurance.com’s Musson. “You could lose your assets as part of filing bankruptcy. Then, you’ll go through years of disastrous credit where you won’t be able to buy a house or qualify for a loan. Bad credit can also result in drastically higher car insurance premiums.”

None of the other debt-relief options will be a walk in the park either, but all of them can help you get back on your feet with fewer of the crippling consequences that come with bankruptcy. Though they won’t magically clear all your debt, each provides a realistic approach to repayment or settlement.

Next, we’ll look briefly at other courses of action you should consider.

Credit Counseling

One of the best ways to deal with debt is the top-to-bottom look at your problem that credit counseling provides. A good credit counselor at a nonprofit credit counseling agency not only helps you evaluate all your options for coping with your immediate debt issues but he or she also offers comprehensive advice about budgeting and money management to keep you from repeating the mistakes that got you into your current mess. Plus, if your discussions result in a decision to file bankruptcy, your credit counselor will stick with you to guide you through the process.

Debt Settlement

A debt settlement company (or you, if you’re a skilled negotiator) sometimes can bargain with your creditors to allow you to pay less than what you owe to eliminate your debts, particularly credit card debt and medical bills. Debt settlement generally means you’ll need to make regular deposits into an escrow account until it’s large enough to get the attention of the people you owe, and that can take 3-4 years. The other downsides: Your credit report and credit score will be negatively affected for as long as seven years, the debt settlement company will take a chunk of your escrow account for its work in negotiating the agreement, and of course, there is no guarantee that you (or the company you hire) can reach an agreement at all. But when it works, you pay off your debts at a discount.

Debt Consolidation

If most of your money problems come from those evil pieces of plastic you carry in your wallet or purse – yeah, your credit cards – then debt consolidation is worth exploring. It combines your individual credit card balances into one account that cuts down on your interest rates, lowers your monthly payment, and simplifies your billing schedule. Instead of dealing with multiple bills from multiple credit card companies, you make one payment every month. It’ll take time to erase all your debt, but the right debt consolidation approach makes that process more affordable. There are several ways to consolidate debt, including entering a debt management plan, taking out a consolidation loan or a home equity loan, and using a credit card balance transfer.

Bankruptcy Assistance & Resources

Back in our discussion of Chapter 7, we mentioned that one of its requirements is a credit counseling course at the start of the process to determine if bankruptcy is right for you. Credit counseling is a required part of the Chapter 13 process, too. The intention is to make sure you’ve considered every alternative for debt relief before you take the high dive into bankruptcy.

The course generally includes a review of your income and expenses, and it provides guidance for developing a personal budget if you don’t have one (or for improving it if you do). Debt.org’s pre-bankruptcy credit counseling, for example, will talk through your short- and long-term financial goals with you and help you move forward with a realistic assessment of your situation. If bankruptcy appears to be the best option, its credit counselors will explain how it works and what impacts it might have.

The credit counseling course isn’t as onerous as it might sound. Sessions usually don’t take more than an hour, and most occur online or over the phone. But you have to take it within 180 days before you formally file for bankruptcy, and the course must be approved by the U.S. Trustee Program office. The certificate you receive when you complete it is part of the paperwork you’ll be required to submit along with the rest of your bankruptcy forms.

Here, finally, are some other bankruptcy resources you might find helpful:

• Finding a bankruptcy attorney
• Bankruptcy and credit scores