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Bankruptcy filing: Choosing between Chapters 7 and 13

Bankruptcy can be thought of as the ultimate debt relief solution – one which is chosen only as a last resort, when other debt elimination strategies have failed, and a consumer has few remaining options to get out from under their debt burden. It is a legal process which promises a fresh financial start to consumers by eliminating their outstanding debt.

Bankruptcy is governed by federal law, and usually results in either the discharge of most or all of a consumer’s unsecured debt, or it reorganizes the debt into a court-approved payment plan. But that doesn’t mean there aren’t downsides. Bankruptcy cases may also involve giving up assets to pay off his creditors. It’s not a get out of debt free card.

When can you file bankruptcy?

Bankruptcy might seem to be the best debt solution when nothing else seems to work. One or more of the following common reasons for filing bankruptcy might prompt you to have a go at it.

People consider bankruptcy when they:

  1. 1 are burdened with enormous debt without the means to pay it off
  2. 2 have tried and failed to work off their debt
  3. 3 are at risk of losing assets to their creditors - and perhaps still owing debt
  4. 4 are unemployed and without the prospect of employment in the near future

How to prepare for bankruptcy

If you decide to begin the bankruptcy process, you should be genuinely ready to follow it through. Courts can and do dismiss petitions they believe are insincere.

Here are a few things the bankruptcy court may look at to see if there is cause to dismiss your petition:

  • If you’re actively incurring additional credit card debt, or taking out more loans
  • Making loans to friends or family members
  • Selling your valuable assets to others without the advice of an attorney
  • Opening a joint bank account with someone other than your spouse
  • Allowing others to transfer money in your bank account

Any of these activities can raise a red flag over your petition.

So what should you make sure to do when you file?

Make sure that you disclose all your existing debt. That includes student loans as well as payday loans.

Disclose any other loans, as well as any assets you own or have an interest in, wherever they may be located.

If you inherit property or cash in the next eight months, or property that has been transferred to a trust in the last 10 years, this should also be included in your petition.

What should you know before filing bankruptcy?

Don’t spend down your savings until you consult with an attorney. You are permitted to keep a small amount of savings, although the amount varies from one state to another, and also depends on whether you're single or married.

If you do spend down your savings, you must be able to persuade the court that your expenses were legitimate. Keep receipts for purchases exceeding $100 if you believe you may file for bankruptcy in the near future.

What are the two main types of consumer bankruptcy?

Although people talk about bankruptcy as if it’s one thing, there are actually several kinds of bankruptcy, each with their own rules. Since bankruptcy leaves a noticeable mark on your financial history, choosing the form of bankruptcy that’s right for your specific situation is extremely important. For that reason, it's sensible to sit with an experienced attorney for pre-bankruptcy counseling.

The two most common form of consumer bankruptcy are:

This is what most people think of when they think of consumer bankruptcy: it’s the basic form of bankruptcy for individuals and businesses. It usually involves the discharge of debt, and is a simpler process than the alternative. It’s usually faster as well.

This form of bankruptcy works by adjusting an individual’s debt load. The individual declaring bankruptcy proposes a debt restructuring plan to the court and their creditors. The court must approve the plan. You can keep most of your assets, but you must have a steady source of income.

Why is it better to hire a bankruptcy attorney than to do it on your own?

It's not absolutely necessary to hire an attorney to file bankruptcy. It’s possible to represent yourself in court. Generally, though, you’ll be better off working with an experienced bankruptcy attorney. Part of the reason for that is simple: bankruptcy can be complicated. With the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) passed in 2005, filing bankruptcy became even more complicated. A minor mistake during the filing process, or simple violation of the bankruptcy laws, could result in the delay of your bankruptcy, or its rejection by the court.

Thus, before you decide to file a DIY bankruptcy, explore these reasons why an experienced bankruptcy attorney may be a better choice.

Attorney Assisted Bankruptcy DIY Bankruptcy
Free consultation with a bankruptcy expert
Protection from creditor harassment
Personalized legal guidance (asset protection, asset valuation, property exemptions, etc.)
Protection from mistakes stemming from misunderstanding of complex bankruptcy laws
Peace of mind

How much will filing bankruptcy cost?

The term 'affordable bankruptcy' can be misleading. To file, debtors need to pay mandatory court fees. The filing fee for both Chapter 7 and Chapter 13 bankruptcies tend to run in the $300 range. The exact numbers may vary by court, so check with the United States Bankruptcy Court where you intend to file for the exact number.

But filing fees aren’t the only cost. In addition to court costs, the consumer also needs to pay attorney fees. That may seem like a good reason to file without the guidance of an attorney, but remember: getting it wrong can be very expensive indeed. Bankruptcy is a legal process, filled with potential pitfalls, with different requirements for different situations. A simple mistake may be enough to have the Court dismiss your bankruptcy case completely. Beyond that, bankruptcy attorneys can help you protect your income and your properties from creditors. The value an experience attorney brings is well worth the cost, considering how much hiring an attorney may save you.

So what’s the takeaway here? When considering bankruptcy, you should expect to spend between a hundred and a few thousand dollars, depending on the approach you take.

Chapter 7 and Chapter 13 bankruptcy filing fee

You have to pay bankruptcy filing fees just to let the court acknowledge your case.

Bankruptcy Fees*
Chapter 7 Chapter 13
Filing fee $335 $310
Credit counseling fee $50 $50-$100
Debtor’s education course $500 - $3500 $2500-$6000
Attorney fees $500 - $3500 $500 - $3500

* These may vary by state or other factors. Check the court and service providers for your area.

For Chapter 7 bankruptcy, you must pay attorney fees up front; otherwise, the attorney’s fee would be discharged along with the rest of your debt.

For Chapter 13 bankruptcy, you can usually arrange to pay only a small part of the attorney fee up front, paying the rest on a payment plan of between 3 and 5 years.

A lot of how fees will be structured, and how much they’ll be, depends on where you live and the complexity of your case. If you have a simple case in an area with a low cost of living, then the attorney may charge you less. Then again bankruptcy attorneys may charge you more if any of this is true:

  1. You need to file both a personal bankruptcy and a business bankruptcy.
  2. You have a large number of creditors.
  3. You have already filed bankruptcy once in the last 8 years.
  4. You earn more than the state median income.
  5. You have fraud allegations filed against you.

What if you can’t pay bankruptcy fees

If you can’t afford the bankruptcy fee, you still have options. Here are a few steps you can take to reduce the cost of filing bankruptcy:

i Ask for a waiver : You can ask the court to waive the filing fee for Chapter 7 bankruptcy when your income is lower than the federal poverty line, and you can’t pay the fee in instalments.

ii Arrange a repayment plan: Where there is a will, there is a way. You can ask the court to allow you to pay the bankruptcy filing fee in installments. In this case, you must pay the fee within 120 days of submitting the petition.

iii Consult legal aid: Some legal aid offices give low or no cost legal advice to people who meet certain income requirements. If you’re eligible, they may agree to represent you without a fee. Here’s the downside: legal aid offices are slammed: they get way more requests for help than they can grant in a timely manner. It may take several months to get off the waitlist. If you can manage the long wait, this option may be good for you.

iv Sell your stuff: In Chapter 7 bankruptcy, you’re likely to lose non-exempt properties or assets. So if you don’t have money for the filing fee, you can sell some of your stuff so you can make the payment. Be aware, however, that the Court can ask about assets sold or transferred before you file, and your answers to those questions can affect how they respond to your case.

How long does it take to declare bankruptcy?

How long it takes between the time you file and the time your bankruptcy is granted depends on a number of factors. One of the largest is the kind of bankruptcy that you selected. Chapter 7 bankruptcies usually take four to six months; that can vary based on the court’s caseload. A Chapter 13 bankruptcy, on the other hand, will likely take longer. But there are limits on how long Chapter 13 bankruptcies can take, which by federal law range between 36 and 60 months.

How will bankruptcy affect your credit rating?

You’ve probably heard that a bankruptcy filing can hit your credit score hard. If so, you heard right. Not only will bankruptcy down your credit score, it will also stay on your report for 7 to 10 years. That means your credit score is likely to stay low for that period as well.

But think about this: most people who are ready to file bankruptcy already have bad credit. So even though bankruptcy may seem like you’re just signing up for seven more years of bad credit -- and you are -- you’re also signing up for doing it without all that debt hanging over your head. That’d likely to be better for your finances, your life, and, in the end, your credit score.

In some cases, it even goes up.

How is that possible?

Well, after you have successfully discharged your debt, your credit utilization ratio goes down. That’s the ratio between the amount of credit you have available and the amount of debt you owe. If you completely discharge your debt, your credit utilization ratio may actually go as low as zero.

The net result? your FICO score goes up.

Apart from that, filing bankruptcy doesn't mean that you'll never have credit again, even while the bankruptcy is on your credit report. Also, you can rebuild your credit post-bankruptcy.

Curious how? Here are the 10 tips for doing just that.

Is your cancellation of debt income taxable?

Usually it is, but there are exceptions.

The IRS recognizes these exemptions to cancellation of debt income:

  1. 1 Amounts canceled as gifts, bequests, devises, or inheritances
  2. 2 The cancellation of certain qualified student loan debt
  3. 3 Certain education loan repayment or loan forgiveness programs.
  4. 4 Canceled debt that would be deductible if you had simply paid it
  5. 5 A qualified purchase price reduction given by the seller of property to the buyer
  6. 6 Certain payments made under the Home Affordable Modification Program
  7. 7 Student loans debt discharged due to death or total and permanent disability of the student.

There are other instances as well. Certain kinds of cancelled debt may simply be excluded from gross income calculations, such as in a Title 11 bankruptcy case, or if you became insolvent immediately before the debt cancellation. Most consumer bankruptcy cases fall under Title 11.

What is Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA)?

The Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA), which became law in 2005, made sweeping changes to the U.S. Bankruptcy Code that made it more complex and unattainable than ever. BAPCPA drastically changed bankruptcy by introducing complex pre-bankruptcy hurdles like credit counseling, financial management, rules on tax returns, and most importantly, a means test.

(Principal Attorney)
Rocklin, California
Updated On May 26, 2021

Mr. Solomon has significant hands on skill and expertise in legal research and writing and extensive litigation experience. He has been licensed with the state bar of California since 2003. He graduated from University of the Pacific, McGeorge School of Law, Sacramento, California in 1998 and currently works in Rocklin, California.

Last Updated on: Wed, 26 May 2021