Headline: I might be bankrupt, but, I am moral…

Date: 12/7/2020

Body: I was reading an article in the Penny Hoarder, and the topic was Bankruptcy.  It seemed to scream out for more context, and perhaps a narrowing of focus to be more appropriate to individuals.  The article is linked below:

What Is Bankruptcy? Here’s How Filing Affects Your Life (thepennyhoarder.com)

When you have nothing left…

No doubt, you’ve seen Wheel of Fortune once or twice, and sometimes, a contestant is unlucky enough to land on the piece of the wheel marked BANKRUPT.     All of the contestant’s winnings that round, and any prizes they have accrued, are taken away by the host.  Personal Bankruptcy is similar , but differs in a few important ways:

  1.  Bankruptcy statutes vary a lot by state, so, please consult a specialist in your jurisdiction, if you ever have to deal with this issue.
  2. Most state laws allow you to keep your house, car and tools that you use in your trade or business, and a few other assets.

What, technically, is bankruptcy and how does it work?

Bankruptcy is a court-mandated protection if you have a series of bills that you cannot pay (often, this is triggered by an unforeseen medical condition of a family member, or something similar.)  When you file for bankruptcy with a specially federally-designated Bankruptcy Court, the Court issues an Automatic Stay, which prohibits the creditors from harassing you while you work with the Court to pay them back.  You provide the Court with a list of all of your debts (secured and unsecured) that you currently owe and are unable to pay.  A representative of the Court will convene a Conference of Creditors (usually at the trustee’s office)  where all of your creditors will meet and discuss repayment possibilities.   Within the laws of the jurisdiction, all assets that can be liquidated will be, and the creditors will be paid off in the order mandated by law.   The last class of creditors (the unsecured debt holders) often agree to accept a percentage of repayment as payment in full (half a loaf is better than nothing.)  As a result of your honest representation of all debts, the Court discharge all debts that you disclosed.

A word of warning here.   If you do not disclose a debt, then in the Order, that individual debt  is not discharged.  Further, it should be noted that debt related to a student loan, Court-ordered alimony or child support, federal tax liens and a few other debts are NOT discharged in Bankruptcy.  And finally, never, never try to hide assets in a bankruptcy proceeding.    If found, the judge may refuse to execute the Order that would provide you relief.

Are there flavors of Bankruptcy

The short answer is yes.   The complete answer couldn’t be covered in a semester course.   Suffice it to say that different bankruptcies are divided into Chapters, and for individuals, they might face Either Chapter 7, or Chapter 13 bankruptcy.  Either route is not easy., and your credit WILL take a major hit.  That said, the protection afforded you, might be a lifeline and ensure your physical and mental health.

Chapter 7

This is the most common form of Bankruptcy for individuals and is known as liquidation bankruptcy.  This means that within State law, when the Court administrator convenes the Conference I spoke of before, all available assets will be liquidated in an attempt to cover the liabilities.    Credit counseling education will likely be mandated by the Court.   Please note that, as of 2005, this type of bankruptcy is means tested, and  can be expected  to take 3-6 months to complete.  Though your credit score will take a hit initially, the Chapter 7 bankruptcy will fall off your credit report in 7-10 years.  At that point, they are able to purchase a home.

Chapter 13

This type of Bankruptcy is used by households with  a higher level of income and more means to (within 3-5 years) pay back the debt.  In this type of bankruptcy, the trustee works very hard to restructure the debt that you have, so that you can pay down the liability over time.  (For instance, they might negotiate with your creditors to either lengthen the period you have to pay back the debt or decrease the interest rate your are being charged.)  There are debt limits on this kind of bankruptcy, but they can differ based upon year.

There are alternatives to Bankruptcy

  1.  Credit counselingà These government-approved services will tailor a debt management plan to your needs and requirements of your creditors.
  2. Take out a debt consolidation loanà Not a great option, it can be preferable to Bankruptcy, and offer you a longer period to pay off your liabilities.
  3. You can contact your creditors and personally try to work out an accommodation with them.  Remember, their objective is to get something from the debt, so they might be willing to reduce your interest rate or lengthen your period to pay back the debt.


2 Types of Personal Bankruptcy (thebalance.com)

Bankruptcy: An Overview – FindLaw

Bankruptcy Basics: When Should You File for Bankruptcy? | legalzoom.com

Bankruptcy: How it Works, Types & Consequences – Experian

Editor’s Note: Please note that the information contained herein is meant only for general education: This should not be construed as Tax Advice.   Personal attributes could make a material difference in the advice given, so, before taking action, please consult your tax advisor or CPA.

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