Pros and Cons of Chapter 7 and Chapter 13 Bankruptcy
Piling amounts of debt can quickly become overwhelming, especially when added onto everyday living expenses. Furthermore, debt collectors can sue and take you to court, leaving you with what feels like no other options. While declaring bankruptcy is often a viable option, you may want to consider the pros and cons of filling Chapter 7 and Chapter 13 bankruptcy.
When debts become unmanageable, and you are looking at possible foreclosure on your home, repossession of your car, or other serious repercussions, considering bankruptcy may feel like the only option. Though it sounds intimidating, declaring bankruptcy can help you get out from underneath your debt and reshape your financial future. If you decide to move forward with declaring bankruptcy, there are a few different options to consider before knowing which one is right for you.
While declaring bankruptcy does have life-changing benefits, there are also long-lasting consequences that will stay with you for years afterwards. Before deciding on declaring bankruptcy, make sure you have considered the other options that are available to you. You'll also want to avoid mistakes when filing.
This article will take you through the pros and cons of two of the most common types of bankruptcy, and it will also address some alternatives to declaring bankruptcy that you may want to explore.
Chapter 7 Bankruptcy
Chapter 7 Bankruptcy is often called ‘liquidation bankruptcy.’ It gets this nickname from the process that occurs when you file for this type of bankruptcy. As soon as you petition the court, a freeze is placed on all of your debt accounts, and all of your assets are given over to a bankruptcy trustee.
This trustee will then begin liquidating all of your nonexempt assets to help pay off the money that you owe to creditors. At the end of the process, many debts can be forgiven. However, there are some debts that survive that you will continue to have to pay off.
This form of bankruptcy is typically used by those who no longer have a way to pay off any of their debts, as opposed to those who just need a longer period of time to get their debt paid off.
- Less Expensive: Filing for Chapter 7 Bankruptcy is often more affordable than filing for Chapter 13 bankruptcy. The fee to file in court for Chapter7 is actually a little bit more expensive, but the attorney costs tend to be less for Chapter 7.
- Relatively Fast: When compared to Chapter 13 bankruptcy and other alternatives to bankruptcy, Chapter 7 is relatively fast. The entire process can be completed between four and six months, meaning that your debt can be eliminated in as little as 180 days.
- Protected Property: Unlike some of your other options, Chapter 7 bankruptcy typically protects your property. While there are some cases that require the foreclosure of your house, there is a good chance that you will get to keep most, if not all, of your property.
- Protection from Creditors: When you file for Chapter 7 bankruptcy, there is an automatic stay put on your owed accounts. This prevents your creditors from trying to continue to collect payments while going through this process. It also stops any debt collection lawsuits that your creditors may try to file against you. Finally, it gets rid of any deficiency you may owe the creditor. A deficiency is created when the asset that is sold does not cover the cost of the debt owed. For instance, if you still owe $27,000 for a boat, but you can only sell the boat for $25,000, there is a $2,000 deficiency. When you file for bankruptcy, your creditor is not allowed to collect anything for the deficiency.
- Qualification: You often have to qualify for Chapter 7 bankruptcy via the bankruptcy means test. The bankruptcy means test helps determine whether you have the means to pay back some of the debt or get more immediete relief through a Chapter 7 bankruptcy.
- Loss of Assets: Though you will typically come out of Chapter 7 bankruptcy with much less debt than when you started, it may come at the cost of your things. The goal of Chapter 7 bankruptcy is to get you out of debt by liquidating your assets to pay off what you owe. This means that you will likely lose any property that is not protected by bankruptcy exemptions.
- Credit Score Damage: Filing for bankruptcy in any manner has the potential to drastically impact your credit score for the worse. Your credit report will show that you filed for bankruptcy for up to ten years, and your credit score can be negatively affected by a bankruptcy for up to seven years. This information will be visible and available to lenders that you may work with in the future.
- Surviving Debt: Although the goal of Chapter 7 bankruptcy is to come out on the other side without debt, there are still some debts that cannot be discharged. Things like alimony, child support, government debt, and restitution are all things that cannot be discharged at the end of your Chapter 7 bankruptcy.
Chapter 13 Bankruptcy
The goal of Chapter 13 bankruptcy is to reorganize your debt payments and extend them out over a longer period of time so that you can get back on top of your debt and maintain your things. Though this takes time, it ensures that you do not have to liquidate your assets. Chapter 13 bankruptcy is often called the wage earner’s plan, because it allows people with regular income to develop a repayment plan for part or all of their debt. A consumer bankruptcy attorney can help you navigate these options.
- Saving Your House: When you file for Chapter 13 bankruptcy, you can help to prevent your house from being foreclosed and sold. Under Chapter 13 bankruptcy, you are able to catch up on your missed mortgage payments and keep your home. You do have to catch up in one lump sum, but there is also a potential that you will qualify for a loan modification or be able to refinance your home mortgage.
- Second Mortgage: If you happen to have a second mortgage, there is a chance that the mortgage is forgiven all together. If the value of the second mortgage is less than what you owe on the mortgage, then the entire balance becomes an unsecured debt, meaning the loan can be forgiven in its entirety. There are very strict regulations on this though.
- Get Rid of Tax Debt: While most governmental tax debt is not forgivable, filing for Chapter 13 bankruptcy usually allows you to spread out your payments over the span of years rather than months. There are some tax debts that, if they meet certain requirements, can be forgiven.
- Have Unsecured Debt Forgiven: Again, there are some debts that are exempt from forgiveness, however, there are many general debts that are considered “unsecured,” and can be forgiven. Debts from old medical bills, credit cards, utility bills, rent payments, and more all fall under unsecured debts that have the potential to be forgiven when filing for Chapter 13 bankruptcy
- Length of Time: Unlike the short six months that a Chapter 7 bankruptcy can take, Chapter 13 bankruptcies can last anywhere from 3 to 5 years. There are some reliefs that happen right away, but for the most part, the entirety of the Chapter 13 bankruptcy process can be very lengthy.
- Attorney Fees: Because of the longer period of time an attorney will be working on your behalf, the cost of your attorney is more when compared to Chapter 7 bankruptcy. For Chapter 13, attorney fees typically cost anywhere between $3,000 and $5,000.
- Low Payment Flexibility: Missing payments while under Chapter 13 bankruptcy is not something that is taken lightly. You are required, when you file for Chapter 13 bankruptcy, to put all of your disposable income towards your debt to repay what you owe. However, if you miss a payment, there could be severe consequences. There is even a possibility that your case could be dismissed.
Bankruptcy can be intimidating, but taking a step towards financial security is always a good idea. There are some alternatives to consider before deciding to file for bankruptcy. Consider these options:
- Debt Consolidation: Consolidating your debt into one payment each month can make organizing your finances quick and easy. While there are potential downsides, like having to put up collateral should you miss a payment, it can help you slow down the rate that you are paying back what you owe to multiple different lenders.
- Debt Settlement: Consider reaching out to your lenders and seeing if there is an amount that they would settle for that is lower than the amount that you currently owe. While this might sound good, it is likely that you would need a lump sum of money that you are willing to pay up front if your lenders accept your settlement offer. It can also mess with your tax return at the end of the year.
- Payoff Planning: While this is similar to Chapter 13 bankruptcy, creating an achievable payout plan can keep you from having to involve the court. Reach out to your creditors and see if you can extend the period of time you have to pay off your debt, and make sure you create a plan that you can follow.