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Types of Individual Bankruptcy

Despite being in a recession, I haven’t seen a lot of personal bankruptcy stories. Many businesses are folding and personal bankruptcies have increased, but the mainstream media hasn’t published many sensational articles spotlighting a remarkable spike in bankruptcies.

Does that mean it’s on the horizon? Or is it simply not news when you can talk about an domestic auto manufacturer calling it quits? Either way, I think it’s important to understand the different types of bankruptcy, even if it is a dirty word, because it could one day help you if you’re in trouble.

U.S. Code, Title 11 – Bankruptcy

When you hear people talk about bankruptcy, they often say things like “Chapter 7” or “Chapter 13” bankruptcy. What do the chapters refer to? They refer to the U.S. Code, specifically Title 11 which covers bankruptcy law. You can read Title 11 at Cornell’s Legal Information Institute [3]. You may recall, from my post on the law that requires us to pay income tax [4], that the U.S. Code is the codification of the laws of the United States. Each of the chapters covers a different aspect of bankruptcy law with Chapters 7, 12, and 13 being the most pertinent to individuals.

Types of Bankruptcy

Chapter 7 bankruptcy is a liquidation bankrupcy where you are forced to liquidate almost everything. It’s the most common type of personal bankruptcy. You turn over all non-exempt property to a bankruptcy trustee. The trustee liquidates it and distributes it to your creditors and you receive a discharge of all discharge-able debts. A Chapter 7 bankruptcy will remain on your credit report for 10 years from the filing date.

Chapter 13 bankruptcy is called a reorganization bankruptcy and used when you feel as if you can repay your debts over three to five years if you can get slightly more favorable terms. It’s possible to file for Chapter 13 if you can prove you have the income after your expenses to pay back your debts if you can get better terms. This option is available only if you have less than $336,900 in unsecured debt and less than $1,010,650 in secured debt.

Chapter 13 is better than Chapter 7 because you’re usually able to keep your home and car and Chapter 13 bankruptcies remain on your credit report for 7 years from the filing date.

Chapter 12 bankruptcy, which is lesser known, covers bankruptcy law if you’re a family farmer or fisherman. It’s very similar to Chapter 11, which is the business version of Chapter 13, and Chapter 13 except it’s more streamlined and designed to work better for family farmer/fishermen businesses. I won’t go into any more detail because it’s unlikely to affect you. If it does, I recommend reading this article on Chapter 12 [5].

Those are the main types of individual bankruptcy. I like to think of Chapter 7 as the “fresh start” type of bankruptcy, where your assets are liquidated and your debts are discharged, and Chapter 13 as the “battle back” type of bankruptcy, because you get debt assistance from the courts but you still repay your obligations.

Finally, remember bankruptcy isn’t a good thing but it’s not a bad thing either. It doesn’t mean you’re a bad person. A few years ago Harvard Law School and Harvard Medical School teamed up to study bankruptcies in 2001 and saw that half of the personal bankruptcies were caused by illness and/or medical bills and it still remains one of the top three reasons people file for bankruptcy.

(Photo: thetruthabout [6])