Who Should File for Chapter 7 Bankruptcy

Bankruptcy law may have changed in the United States, but the basic forms of bankruptcy are unchanged. While those with extraordinarily large debts may file under chapter 11, usually reserved for companies, virtually all individual filings are either chapter 7 or chapter 13 bankruptcy filings.

One major change is that some people have no choice: those with higher incomes must file under chapter 13 bankruptcy. People under the threshold may still choose to file under chapter 13 bankruptcy, though they would ordinarily want to choose to file under chapter 7.

Chapter 7 vs Chapter 13 bankruptcy

While these forms of bankruptcy are referred to by their placement in the US tax code, they may be alternately distinguished by their descriptive names: liquidation bankruptcy and reorganization bankruptcy. Chapter 7 bankruptcy is reorganization bankruptcy for individuals, and entails the immediate discharge of all eligible debts (though not all debts can be discharged) and liquidation of some of your property.

Under chapter 13 bankruptcy, you do not face the risk of having property taken away, but you merely form a debt repayment plan over a period of five years rather than have your debts immediately canceled. For many, the trade-off of immediately being free of debts even at the cost of lost property is worth it, though there are situations in which it is more desirable to choose to file under chapter 13.

Changes under BAPCPA

The "new" bankruptcy law, enacted in 2005, is known as the Bankruptcy Abuse Prevention and Consumer Protection Act. Under this law, bankruptcy filers are divided into those whose average monthly income falls above and below the median monthly income in their state for their family size.

Recall from elementary statistics that the median is the middle number of a set, rather than the average, which is the sum divided by the number of elements in the set; thus there are as many households of a given size with a monthly income above the median than below.

Those with an average monthly income above the median for a household of their size in their state are not permitted to file under chapter 7 bankruptcy unless certain circumstances are met, which is determined by the Bankruptcy Means Test. The test assesses your ability to repay 25% of your unsecured, non-priority debts within five years; those who "pass," or are deemed unable to do this, will be allowed to file under chapter 7 bankruptcy.

Chapter 7 Bankruptcy

Chapter 7, or liquidation, bankruptcy, will discharge many, but not all, debts, as discussed above. Specifically, debts which are generally not discharged include:

debts incurred to pay nondischargeable taxes
court-imposed fines, student loans
back taxes
debts resulting from drunk driving injuries or deaths
debts owed under child support, alimony, or marital settlement agreements
loans owed to a pension plan.


Reasons To File For Chapter 7 Bankruptcy

The biggest reason most people would choose to file for chapter 7 bankruptcy is that it is faster and easier than repaying a chapter 13 payment plan. Typical successful chapter 7 filings are closed within three to six months, and the filer is rendered free of all debts except for a mortgage, car payments, and the nondischargeable debts discussed above.

In fact, most people who choose to file under chapter 13 are unable to complete the repayment plan, and may end up converting their bankruptcy into a chapter 7 case (if eligible). Should you end up converting your chapter 13 filing into a chapter 7, any payments made toward the repayment plan will have been for naught. Therefore, unless you are certain of your ability to complete a chapter 13 repayment plan, it may be wiser to choose to file under chapter 7, so long as you are eligible under BAPCPA.