Filing for Bankruptcy

Chapter 13 bankruptcy rules

Filing for Chapter 13 bankruptcy can provide you with a structured plan for paying down your debt and stop creditor harassment, runaway interest rates and fees. It’s sometimes referred to as a “re-organization” bankruptcy because it re-organizes your debts so that you can afford to pay them.

Unlike a Chapter 7 bankruptcy,  Chapter 13 bankruptcy doesn’t completely discharge your debts, but rather provides you with the structure to pay them off using your income. People who might benefit from Chapter 13 bankruptcy have regular income, but are not able to afford their debt payments and living expenses. Normally, under a Chapter 13 bankruptcy, a three to five year payment plan is established. Once all payments under the plan have been made, any remaining debt is eliminated.

One important benefit of Chapter 13 over Chapter 7 bankruptcy is that you are not forced to sell your assets. This is because debts are paid off with current income as opposed to proceeds from the sale of your assets.

Filing requirements

Filing requirements

Filing requirements

In your petition for bankruptcy, you’ll need to provide a list of all of your debts (whether you are behind on paying them or not) as well as details about your assets, income and living expenses. You will also need to create and file a plan for paying off your debts over a specified period of time. You must have regular income and also document that income over the past several years to support your ability to make debt payments.

While there are no limits to how much debt you can have to file for Chapter 7 bankruptcy, there are limits for Chapter 13 bankruptcy for both secured and unsecured debt. These limits increase each year due to inflation, so you have to research the current levels before filing your application. They are put into place to make it more likely that you can pay off debt via a payment plan rather than let you off the hook for significant amounts of debt.

Also, you must complete a course on financial counseling to help you prepare for your bankruptcy petition and to discuss bankruptcy alternatives. Counseling also tries to help you understand what behavior created your difficult situation in the first place, and how to modify your behavior in the future.

Payment plan

Payment plan

Payment plan

Your payment plan must accomplish at least one of the following:

1. Pay off all your debts within the appropriate time frame

2. Commit all your disposable income within the time frame to paying off debts

3. Be accepted by your creditors if the plan doesn’t meet either one of the above conditions

Adding to that, your payment plan must pay down at least the same amount or more of your debt than if you had filed a Chapter 7 bankruptcy and had to sell your assets. If you have a lot of assets but low income, you may not be able to accomplish this. In other words, even if you file for Chapter 13 you may be forced to sell some assets.

Duration

Depending on your income, you will either have three or five years to complete your payment plan. Generally, you will be subject to the payment plan for only three years if you have less than the median income for your area (i.e. have passed the “means test”) or five years if you did not pass the “means test.” Either way, you are required to put all your disposable income, as defined below, towards the payment plan.

The payment plan will also make provisions for you to continue full monthly payments on secured debt, such as a mortgage or a car loan, during and after the payment plan is complete if the payment term on those debts extends that long. However, whatever unsecured debt is left after the payment plan is complete will be forgiven.

Priority debts

Priority debts

Priority debts

Your payment plan must prioritize certain debts to pay them in full during its course. These are referred to as “priority debts” and include:

1. Bankruptcy filing fees paid to the bankruptcy court, if you haven’t paid them in full when filing.

2. Attorney’s fees for filing bankruptcy.

3. Back alimony and child support debts.

4. Any back payments due on your mortgage, auto loan or other secured debt and any fees or penalties that resulted from missing payments. These are considered priority only if you wish to keep the house, car or other secured debt the collateral is attached to.

5. Most tax debts although some old income tax debts can be forgiven.

Reaffirmed debts are also paid in full each month under the payment plan. However, they don’t have to be paid off in full by the end of the payment plan as long as the reaffirmed debt’s payment schedule is kept.

Disposable income

Disposable income

Disposable income

Disposable income, as defined by federal bankruptcy laws, refers to the income left over after paying several expenses in full each month. These expenses include:

1. Living expenses, including food, rent or mortgage, transportation, utilities, medical bills and any current alimony or child support bills.

2. Current payments for secured debts, such as your car or home, that you would like to keep.

To determine your disposable income, subtract your living expenses and secured debt payments from your monthly income. After that, subtract your monthly payments for priority debts which you will need to spread out across the three or five years required for your plan. The amount left over is your monthly disposable income and will be the amount on which the trustee’s commission is calculated.

Your bankruptcy trustee should be able to provide their current commission level (normally between 3% and 11%). Divide whatever is left after taking out the trustee’s commission among your other debts, proportional to their size. While you are expected to pay down as much as you can, it is also expected that you won’t be able to pay down all of your debts.

Any non-priority debt amounts left over after your plan concludes will be discharged or wiped out.

Unlike Chapter 7 bankruptcy, a Chapter 13 bankruptcy allows you to pay debt using current income instead of liquidating your assets. Creditors, however, can object to a payment plan if your assets are sufficient to pay off your debt and you claim little disposable income. That is, if you have a lot of assets but little income. This means your payment plan will repay just a fraction of your debt and creditors may ask the court to force you to sell some of your assets as well.

Treatment of property with loans

Unless a modification to the loan is approved by the creditor, loans secured by property must be paid in full each month  to keep it. If the monthly payments for a secured debt are not paid in full during the course of the payment plan or there are still missed payments that were not made up after the payment plan has been completed, the creditor has the right to seize the property or foreclose on it. Missed payments are considered a priority debt with regards to your payment plan and must be paid back to successfully complete the plan.

One thing to keep in mind is that while payments must be made, the loan does not need to be paid in full by the end of the payment plan if the loan term is longer than the payment plan, such as with a home mortgage.

Automatic stay

Automatic stay

Automatic stay

If you’re considering bankruptcy, you’ve probably received a lot of unwanted attention from your creditors and foreclosure proceedings may have already begun on your home. Once you file for bankruptcy, an “automatic stay” measure is activated which requires all creditors to immediately stop their collection attempts until the court determines how to proceed.

Creditors, however,  can appeal to proceed with a foreclosure in some cases, such as if one was already in progress. However, they must do so with the permission of the bankruptcy court.

Conclusion

Chapter 13 bankruptcy is an opportunity for those with a regular income to pay down their debts over a few years at low or no interest rates while keeping their assets. However, since almost every cent that is not used for living expenses will be directed towards debt payment, it is by no means an easy way to get out of debt and will have long-standing repercussions on your credit. If you are considering bankruptcy,  you should explore all your options and understand the effects bankruptcy will have on your quality of life during and after the process.