Chapter 7 vs. 13 - Which Is Right For You

     General Discussion    

 

Chapter 7 is commonly known as straight bankruptcy. Chapter 7 is designed to wipe out your debts as opposed to a Chapter 13 which is designed to restructure your debts and pay your debts back to the extent your income and expenses allow you to do so. The following is a discussion of both types of bankruptcy actions.

 

Chapter 7

A Chapter 7 generally discharges your obligation to pay unsecured debts. An unsecured debt is one that has no collateral guaranteeing the debt. Examples of unsecured debts would be general credit cards, medical bills, and signature bank loans. There are certain categories of debts that cannot be discharged in bankruptcy. Examples of such debts would be child support, income taxes less than three years old, and government guaranteed student loans.
 
As to secured loans like a house or car loan, Chapter 7 allows you to wipe out the obligation to repay the money but it does not wipe out the lien created by a security agreement which means the creditor still has the right to repossess the collateral. If you are wanting to keep the collateral, you will have to repay the loan. If you are current on a secured loan, Chapter 7 allows you to keep the collateral and to repay the loan. You can do this by entering into a reaffirmation agreement which is a contract approved by the Court. In this contract you agree to be liable on the debt even though you have filed bankruptcy. On the other hand, if you want to surrender the collateral and wipe out the debt, you can do that instead. This is common, for example, where one is upside down on a loan like a car note and owes much more than the car is worth.
 
One question many people ask is whether or not they can keep all the property they have if they file Chapter 7. For most people, the answer to this question is yes. When you file Chapter 7, the law does not require you to give up all property. You are allowed to keep certain properties that fall under what are called exemptions. The law allows you to exempt and keep several thousands of dollars worth of property. Most people fall well within these exemptions and their case is classified as a no asset case. This means the property they own is within the exemptions and they are allowed to keep it all.

 

Chapter 13

As to Chapter 13, this type of bankruptcy is designed to restructure and reorganize your debts into one affordable monthly payment. The payment is affordable because it is calculated based off the amount of disposable income you have. Disposable income is the income you have left over after subtracting the amount of your total income from the amount of your reasonable living expenses.
 
Chapter 13 offers individuals a number of advantages over straight liquidation under Chapter 7. Perhaps most significantly, Chapter 13 offers individuals an opportunity to save their homes from foreclosure or cars from repossession. By filing under this chapter, individuals can stop foreclosure proceedings and/or repossessions and are allowed to cure delinquent payments over time. Another advantage of Chapter 13 is that it allows individuals to reorganize secured debts and extend them over the life of the Chapter 13 plan which may lower the payments. Chapter 13 also allows you to adjust the interest rate down to a reasonable rate on all secured debts except a mortgage. Chapter 13 has a special provision that protects third parties who are liable with the debtor. This provision can be used to protect co-signers. Finally, Chapter 13 acts like a consolidation loan under which the individual makes the plan payments to a Chapter 13 trustee who then distributes payments to creditors. Individuals do not have direct contact with creditors while under Chapter 13 protection.
 
As to secured loans, similar to a Chapter 7, you can choose to either keep the collateral or you can surrender it. If you choose to keep the collateral, the debt will have to be paid back one of two ways. If the debt is large enough that it cannot practically be paid back during the life of the plan (like a mortgage), the loan will be paid back as a continuing debt. This means the loan will be brought current and paid regularly during your plan and at the end of the Chapter 13 you will resume paying the loan at the regular monthly rate. The other way is to pay the secured debt in full during the life of the plan. For example, if you are buying an automobile, you would typically pay back the debt over the length of your Chapter 13 plan (which can last up to five years). If you have already been buying an automobile for more than 2.5 years, you are generally allowed to cram down the debt to the current value of the automobile instead of having to pay back the entire balance.
 
Whether or not your unsecured creditors are paid in a Chapter 13 depends on what you can afford to pay. Generally, bankruptcy law requires you to commit your disposable income for a minimum of three years. Again, disposable income is defined as the difference between your income and your reasonable living expenses. If there are not sufficient funds to pay the unsecured, they will receive only a percentage of what is owed them or possibly nothing at all. For many people, this means they are able to discharge out all or most of their unsecured debts similar to the discharge in a Chapter 7 while still being able to reorganize and keep secured debts.
 
Chapter 13 is a fair way to pay back your creditors because creditors all get paid through an organized plan (based on what you can afford) instead of each creditor calling and trying to harass you into paying their debt in full. It is fair to you because you only pay back what you can actually afford.
 
Regardless of the Chapter you file, your relief begins immediately upon filing the bankruptcy. The day the bankruptcy is filed, the Court issues what is called an automatic stay which orders your creditors to stop all collection efforts whatsoever. They cannot call you, write you, sue you or garnish you. All collection is stopped.

 

      Factors to consider based on circumstances     

 

Chapter 13

1.  You have a house in foreclosure that you want to keep. You probably want to look at filing Chapter 13 because it is the only way to effectively keep your home. Chapter 13 allows us to propose a plan for you that pays all of the mortgage arrearage over a period of up to five years. You do not have to come up with any money in order to stay in your home. The arrears are paid out through the plan.
 
2.  You have an automobile that you are behind on the payments and want to keep. Chapter 13 will allow you to catch the automobile payments up through the plan. If you cannot catch up the automobile on your own, you should consider Chapter 13.
 
3.  You have an automobile that has been repossessed and you want to get it back. Chapter 13 is what you will need to file to be able to get the automobile back. As long as you file Chapter 13 before your vehicle is resold by the creditor, the creditor is required by law to immediately return the vehicle to you.
 
4.  You are buying an automobile that has a high payment. Chapter 13 can help you lower your automobile payment in many ways. First, a Chapter 13 plan can go up to five years. This allows you to pay the remaining balance over five additional years. Second, Chapter 13 can pay the reaming balance under potentially more friendly terms which includes possibly lower interest rates or reducing the secured loan down to the current value of the vehicle.
 
5.  You owe money on a car that you purchased more than 2.5 years ago. If your vehicle was purchased more than 2.5 years ago, Chapter 13 allows you to pay it as a secured debt in the amount of the current value of the vehicle instead of having to pay the remaining balance. Depending on your circumstances, this might save you a considerable amount of money.
 
6.  You are buying a car that has high interest loan. In a Chapter 13, you are not required to pay the current interest rate on your auto loan. Bankruptcy allows you to pay the loan back with an interest rate based on the federal prime rate which is currently very low . A lower interest rate can make a big difference in both the monthly amount and the total amount that has to be paid back.
 
7.  You owe money to the IRS or State. If you owe back income taxes, a Chapter 13 can help you take control and save you money. First of all, if the taxes are more than three years old, you may be able to classified them as a general unsecured debt and only pay them to the extent your income and expenses show you can afford to do so. This means much or all of the debt may be discharged. If the taxes are less than three years old, they have to be paid but you are allowed to propose a plan which pays them without any further interest or penalties accruing. If you have tax debt, you probably already know that a large part of the debt consists of interest and penalties. Being able to pay the taxes over five years without interest and penalty can be a big savings.
 
8.  You owe back child support. Child support cannot be discharged in any form of bankruptcy. But child support arrears can be reorganized and paid over a five year period. During the time you are in the Chapter 13, you are under the protection of the bankruptcy court and you cannot be held in contempt for failure to pay the support obligation.
 
9.  You have a credit score that is not too bad despite having debt problems. While both Chapter 7 and Chapter 13 have some negative impact on credit scores, a Chapter 13 is a reorganization bankruptcy and does tend to look better on your credit report than a Chapter 7. If your credit score is not bad and having as good a credit score as possible is important to you, you may want to consider filing a Chapter 13.
 

Chapter 7

1.  You do not owe secured debts. If you do not have much secured debt, a Chapter 7 may be best since there are no secured debts needing to be restructured. If you have only unsecured debt, Chapter 7 will allow you to completely discharge out most such debts with the exception of things like government guaranteed student loans, child support, and taxes less than three years old.
 
2.  You owe secured debts but you are current on them and can afford their monthly payment. A Chapter 7 may be best. If you are comfortable that you can afford the payments on the secured debts you have, you can keep these secured debts (like a house or car loan) in a Chapter 7 by signing a reaffirmation agreement with the creditor. The Chapter 7 will allow you to discharge out the other unsecured debts like credit cards or medical bills.
 
3.  You have no income. A Chapter 13 is commonly called a wage earner's plan because it requires some source of income to fund the Chapter 13 plan. Income does not mean just wages from a job. It can include things like child support, unemployment benefits, Social Security payments or worker's compensation payments. It also includes a spouse's income living in your household even if that spouse does not file. If you do not have any source of income at all, you may want to look at filing Chapter 7 because it does not require you to have an income.
 
4.  You owe back income taxes that are more than three years old. A Chapter 7 can help. Income taxes more than three years old can generally be discharged out. If the taxes were not filed on time, they can still be generally discharged out if they have been filed for at least two years and have been assessed for more than 240 days.
 
5.  You owe a lot of unsecured debt like credit cards or medical bills. A Chapter 7 is a good way to discharge out general secured debts like card cards and medical bills.

 

Let Us Show You How We Can Help 

The Harris Law Firm is experienced in helping Arkansans file both Chapter 7 and Chapter 13. We have over 25 years of legal experience. Contact us at the Harris Law Firm—call 501-372-6985 or set an appointment online. We offer free consultation. There is never a fee unless you decide to file.