When debtors cannot qualify to file a chapter 7 bankruptcy under federal law, the alternative is chapter 13, a procedure that achieves the elimination of debt through a multi-year repayment plan. Debtors can retain significant assets including home and vehicles under a chapter 13 bankruptcy. A married couple may file jointly or as individuals.
Unlike chapter 7, which collects non-exempt property and liquidates it to pay creditors, a chapter 13 procedure does not sell off property. Instead, the debtor proposes a plan using anticipated monthly income that will pay some debts in full and at least partially pay many other existing debts. Four years must have passed from the filing of a chapter 7 bankruptcy and at least 2 years from a discharge received from a prior chapter 13 filing.
Choosing the payment plan route that will ultimately eliminate many unpaid debts takes a considerably longer time. A chapter 7 liquidation procedure can be completed in about four months. A chapter 13 procedure will usually take three years if the debtor could have qualified chapter 7. Otherwise, most repayment plans require five years.
Filing a chapter 13 bankruptcy can save a debtor’s home. Filing a petition immediately stops foreclosure proceedings. The debtor must continue to make regular mortgage payments on time, but will be given added time to make up delinquent payments. Similarly, other secured debt can be spread out over the term of the payment plan resulting in smaller monthly payments.
Preparing to File
Completion of a credit counseling class is required during the six months prior to filing. This can usually be accomplished online. Payment of federal income tax must be up to date. The most recent income tax return must be provided soon after the petition is filed. The debtor may also be required to provide the most recent six months of paystubs.
The bankruptcy petition must include information on all creditors including names, addresses and amount owed. The debtor cannot choose which debts are included. It’s essential that all debts are listed. The debtor states the amount expected for monthly income and outlines a detailed budget for monthly living expenses.
A list of all the debtor’s property is also required. A debtor must disclose any property transferred within the prior two years. Transfers can be voided if a bankruptcy trustee determines that property was transferred for less than fair market value or with the intent to hide the property from consideration as an asset.
The proposed repayment plan is the heart of a chapter 13 petition. It must be designed considering the debtor’s anticipated income over the term of the plan, family size and the amount and type of debt owed. While a layperson may try to craft a plan using forms and instructions available online, representation by an experienced bankruptcy attorney should be considered. Improprieties in the petition can result in it being dismissed or, worse, exposing an individual to criminal penalties.
A fee of $310 is required when the petition is filed in court, but payment may be allowed in four installments upon request of the debtor and approval by the court.
The Effects of Filing
Once the petition has been filed in court, most collection actions are immediately stopped. Creditors cannot initiate lawsuits, garnish accounts or wages or even call the debtor in most cases. Individuals who acted as co-signers on the debtor’s obligations are also protected from collection actions.
A bankruptcy trustee will be appointed within three to eight weeks after a petition is filed. The trustee will review the petition and proposed payment plan. The trustee will also schedule a 341 hearing, which the debtor must attend. The debtor will be placed under oath and questioned about information in the petition and the proposed repayment plan. Creditors may also appear to voice objections or concerns. The trustee may request changes to the plan. Most hearings take only five to ten minutes.
Once a bankruptcy petition is filed, debtors no longer pay any bills directly. The trustee acts as a clearinghouse for debts. A debtor must make regular payments to the trustee as outlined in the repayment plan. The first payment is due 30 days after the petition is filed even if the payment plan has not yet been approved. The trustee assumes responsibility to pay creditors. The debtor must obtain the trustee’s permission before acquiring any substantial new debt to ensure the debtor’s income remains sufficient to pay debts included in the plan.
Priority claims, typically taxes and costs of the bankruptcy proceeding, must be paid in full. Secured claims have are second in importance. These are debts for which the debtor has the property that could be reclaimed by a creditor for non-payment. The amount of secured debt to be paid can vary depending on when the debt was incurred. Unsecured claims such as medical bills, payday loans, and credit card debt have the lowest priority and do not need to be paid in full to be discharged.
Failure to make regular payments to the Trustee can result in dismissal of the case, and all remaining debt will still be owed. If a debtor’s monthly income falls below the median income for the state and the debtor cannot make the payments as outlined in the plan, the debtor may ask the court to convert the case to a Chapter 7 bankruptcy. A significant illness or injury may qualify as a hardship allowing conversion.
Discharge of Debt
Discharge occurs once the repayment plan has run its course and other conditions have been met. Child support and spousal maintenance obligations have to be current. The debtor must have completed a financial management plan approved by the court. This is different than the credit counseling class required to be completed prior to filing.
A discharge releases a debtor from the obligation to pay anything further on most debts listed in the petition with a few exceptions. Remaining balances on some long-term debts such as home mortgages must still be paid. Certain debts cannot be eliminated in bankruptcy including a child and spousal support, student loans, some taxes, criminal fines, and restitution. If any balance remains on such debts following discharge, the debtor is still required to pay.
Life After Bankruptcy
The bankruptcy will appear on your credit report for 10 years, but the effect of a Chapter 13 bankruptcy should be less damaging than a Chapter 7 since some debts will show a current payment history while others will show a zero balance. You can immediately begin to rebuild credit by obtaining new credit cards or loans. You may be surprised to see offers for new cards showing up in the mail soon after discharge. A debtor emerging from bankruptcy is actually considered a good credit risk by some lenders since the person has demonstrated payment on debt over time while other debts have eliminated entirely. Offers for new credit will likely include higher interest rates or annual fees, so choose wisely to avoid creating a new credit crisis in the near future.
The bankruptcy laws were designed by Congress to give honest debtors a clean slate when financial circumstances become overwhelming. A chapter 13 bankruptcy fulfills the moral obligation some may feel to pay their debts as best they can while protecting their home and regaining control of their personal finances.