Which Bankruptcy Chapter Is Right for Me?

Bankruptcy offers a legal framework for individuals to address overwhelming debt, providing a path to financial stability by allowing debtors to eliminate certain debts or reorganize obligations under court protection. This article overviews Chapter 7 and Chapter 13 to clarify which aligns with various financial situations.

Chapter 7 Eligibility and Outcomes

Chapter 7, or liquidation bankruptcy, allows individuals to discharge many unsecured debts. Eligibility is determined by a “means test,” assessing income against the state’s median; if income is below the median, debtors generally qualify, otherwise, calculations determine if disposable income exists to repay debts, potentially leading to ineligibility.

A bankruptcy trustee administers the debtor’s estate, identifying and potentially selling non-exempt assets. Exemption laws vary, but commonly protect property such as:
Equity in a primary residence
A vehicle
Household goods
Retirement accounts
Non-exempt assets, like second homes or luxury items, may be sold.

Chapter 7’s primary outcome is the discharge of eligible debts. This provides a fresh start. Dischargeable debts include:
Credit card balances
Medical bills
Personal loans
Certain unpaid utility bills

Not all debts are dischargeable in Chapter 7. Non-dischargeable obligations include:
Most student loan debt
Recent income taxes
Child support and alimony obligations
Debts from fraud or willful injury
Debtors attend a meeting of creditors; after financial management courses, discharge is typically issued within months.

Chapter 13 Eligibility and Outcomes

Chapter 13, or reorganization, offers individuals with regular income a structured way to repay debts while retaining assets. Eligibility requires a consistent income source and total debts not exceeding specific, federally set limits, adjusted periodically.

The core of Chapter 13 is a repayment plan, outlining how the debtor pays creditors over three to five years. Plan duration depends on income relative to the state’s median. The plan must allocate all disposable income to creditor payments, ensuring creditors receive at least as much as in a Chapter 7 liquidation. Payments begin to the Chapter 13 trustee after court approval.

A primary benefit of Chapter 13 is keeping all property, including non-exempt assets, by making payments through the repayment plan. This allows individuals to retain their home, vehicles, and other possessions without liquidation, unlike Chapter 7 where non-exempt assets may be sold. Chapter 13 also helps catch up on missed mortgage or car loan payments, preventing foreclosure or repossession.

The repayment plan can restructure various types of debt. It addresses mortgage arrears, allowing debtors to cure defaults while continuing current payments. Secured debts, like car loans, can sometimes be “crammed down,” reducing the principal balance to the vehicle’s fair market value if the loan was taken out sufficiently prior to filing. Unsecured debts, such as credit card debt and medical bills, are typically paid a percentage of what is owed, with the remainder discharged upon plan completion. Certain non-dischargeable debts from Chapter 7, like recent taxes or child support arrears, can also be paid through Chapter 13.

Key Considerations for Choosing a Chapter

Choosing between Chapter 7 and Chapter 13 involves evaluating financial circumstances and goals. Income level is a primary factor: Chapter 7 eligibility is via the means test; if income is too high or disposable income significant, Chapter 13 may be the only option, requiring regular income and consistent monthly payments.

The nature and value of owned assets also play a role. Individuals with substantial non-exempt assets, like equity in a second property or valuable investments, who wish to retain them, typically find Chapter 13 more suitable. Chapter 13 allows debtors to keep all property by including its value in the repayment plan; Chapter 7 may require liquidation.

The types of debts are another consideration. Chapter 7 offers quick resolution for dischargeable unsecured obligations like credit card debt or medical bills, especially with few non-exempt assets. However, for mortgage arrears, car loan defaults, or non-dischargeable priority debts like recent taxes or child support, Chapter 13 provides a mechanism to restructure and pay these over time, allowing curing defaults on secured debts and addressing certain non-dischargeable obligations Chapter 7 cannot.

Financial goals also influence the choice. For a swift discharge of unsecured debts and a quick fresh start, Chapter 7 is preferred due to its shorter duration (four to six months). Conversely, to save a home from foreclosure, prevent vehicle repossession, or manage non-dischargeable debts through a structured payment plan, Chapter 13 is more appropriate, involving a three to five-year repayment period.

Previous bankruptcy filings can impact eligibility. Specific waiting periods exist between discharges, varying by chapters previously filed and the chapter now considered. For instance, a debtor must typically wait eight years after a Chapter 7 discharge before another Chapter 7 discharge. A Chapter 13 discharge after a Chapter 7 discharge generally requires four years. Filing Chapter 7 after a Chapter 13 discharge generally requires a six-year wait, though this can be shortened under certain conditions.