A Bankruptcy is a federal court proceeding which can either discharge (eliminate) all or part of your debt, or force your creditors to take a payment plan on all or part of your debt.
The two most common types of bankruptcy are Chapter 7 and Chapter 13. A Chapter 7, also called a "liquidation," will "discharge" (effectively eliminate) most of your debts without having to repay anything. Under a Chapter 13, you make monthly payments to a court appointed trustee for 3 to 5 years (usually 5), and your creditors get paid back all, or usually a portion of, the amount owed to them.
Before filing a Chapter 7, you should look at the following 4 steps.
STEP ONE: ARE YOUR DEBTS DISCHARGEABLE?
Not all types of debt can be discharged (eliminated) in a bankruptcy. Non-dishargeable debts include:
TAXES. (Unless the tax is more than 3 years old and meets other criteria).
STUDENT LOANS. (Unless requiring you to pay the debt would impose an undue hardship on you or your dependents.)
DEBTS FROM INTENTIONAL WRONGDOING. Debts incurred through fraud, embezzlement, theft, willful and malicious injury, or driving while intoxicated are generally not dischargeable.
DOMESTIC SUPPORT OBLIGATION. Child support and alimony cannot be discharged.
Debts that do not fall into one of these categories can probably be discharged in a bankruptcy. These include most debts for credit cards, medical bills, personal loans and business expenses.
STEP TWO: INCOME WISE, DO YOU QUALIFY FOR A CHAPTER 7?
If your income is below the state median income, you can file a Chapter 7. If it is above the state median, you may still qualify to do a Chapter 7, but there are more calculations you need to go through.
In California, the median yearly income for a one-person family is $48,009, or $4,001 per month. For a three-person family it is $59,659 per year, or $4,972 per month.
The median income is calculated from the 6 full months prior to filing the bankruptcy. For example, if you file bankruptcy on July 15, 2013, the 6 month period would be January through June, 2013.
STEP THREE: IF YOU FILE A CHAPTER 7, WILL YOU LOSE ANY PROPERTY?
The next consideration in determining whether to file a Chapter 7 is whether you have any property that is above the exemption to which you are entitled. Most people who file a Chapter 7 are allowed to keep all of their assets. Your clothing, furniture, and household goods will most likely be exempt. There are various other exemptions that have different amounts, such as tools of the trade, automobiles, personal injury settlements cases, and pensions and retirement accounts.
If you own and live in a home, you have a â€œhomestead exemptionâ€ in the equity of the home of $75,000 if you the only one in your family, or $100,000 if you have dependents living with you, or $175,000 if you or your spouse are over age 65 or disabled.
If you don’t use the homestead exemption, there is a "wildcard" or "catch all" exemption of over $23,000 that you can apply to any assets you want.
If your assets are over and above your exemptions, you might not want to file a Chapter 7. However, some clients choose to file a Chapter 7 anyway it might be worth it, for example, to lose $5,000 worth of assets in order to get rid of $150,000 in debts.
STEP FOUR: ARE THERE OTHER DISADVANTAGES TO FILING A CHAPTER 7?
If you have recently made a large loan repayment to a friend or relative, you may not want to file a Chapter 7. Any repayment to a creditor within 90 days prior to filing a bankruptcy is considered a "Preferential Transfer" meaning that it prefers one creditor over another. If the creditor is an â€œinsider,â€ meaning a relative or a business partner, then the preference period is 1 year rather than 90 days. If you have made a loan repayment during this period, the Trustee could ask your friend or relative for the money back.
If you have given money or property to a friend or relative, or donated a sizeable amount of money to a charitable organization within 4 years before filing the bankruptcy, the gift could be considered a â€œfraudulent transfer,â€ meaning a transfer made to avoid paying creditors, and the Trustee could ask the recipient to pay back the money.
To summarize, before filing a Chapter 7, you should determine:
- Is your debt dischargeable?
- Do you qualify income-wise for a Chapter 7?
- Will you lose any assets if you file a Chapter 7?
- Will a Chapter 7 be detrimental to anyone you have given property or money to prior to the bankruptcy?