The 6 Types of Bankruptcies and How They Relate to the Average Person
The word “bankruptcy” has been much in the news lately thanks to the recent bankruptcy filing by collapsed crypto exchange FTX and reports that Elon Musk might take his recently acquired Twitter into bankruptcy to protect it from creditors.
In both cases, the companies are saddled with more debt than they can handle with available cash flow. Bankruptcy is a way to get more breathing room from creditors while also protecting certain assets.
It’s hardly groundbreaking news when companies or individuals file for bankruptcy. In the United States alone, annual bankruptcy filings in calendar year 2021 totaled 413,616, according to the Administrative Office of the U.S. Courts. That was actually well down from 544,463 cases in 2020, when the financial impact of COVID-19 sent many people and businesses into bankruptcy. There were 14,347 business filings in 2021, down from 21,655 the previous year.
To file for bankruptcy protection, debtors must first submit a petition to their local federal bankruptcy court, Forbes reported. This involves filling out numerous forms and providing information on finances, including tax returns, income, mortgage statements and bank account statements. Filers must also take a pre-bankruptcy credit counseling course and a pre-discharge debtor education course from approved providers.
After filing, debtors meet with creditors and a court-appointed trustee to answer questions under oath about the debtor’s ability to repay the debts. This is called a 341 meeting because it is mandated by Section 341 of the Bankruptcy Code. A discharge will then be issued following a period that might range from a few months to several years, depending on the case.
The U.S. Bankruptcy Code lists six types of bankruptcies, according to USCourts.gov: Chapters 7, 9, 11, 12, 13 and 15. At least four of those will not have much relevance to the average person:
- Chapter 9: This allows municipal bodies such as cities and school districts to help pay back debts while keeping creditors away from their assets.
- Chapter 11: Businesses often use Chapter 11 as a reorganization strategy that lets them continue operating while liquidating assets to help pay back debts.
- Chapter 12: This is reserved for family farmers and fishers, allowing them to restructure finances so they can avoid foreclosure or liquidation.
- Chapter 15: This is a newer bankruptcy code chapter that is primarily for international cases. It helps establish the guidelines for filing bankruptcy across borders, such as when insolvency cases involve more than one country.
The two most common types of bankruptcies, at least for individuals, are Chapter 7 and Chapter 13. Here’s a quick look at each:
Chapter 7
This chapter of the Bankruptcy Code provides for the liquidation of a debtor’s nonexempt property and the distribution of the proceeds to creditors, according to USCourts.gov. As Forbes noted, almost all Chapter 7 filers get at least some of their debts discharged.
One advantage of Chapter 7 is that it offers the quickest path through the bankruptcy process — often as little as four months from filing to final resolution — because, as GOBankingRates previously reported, there is no repayment plan involved. Filers might also be able to keep personal property that is exempt from liquidation. The main downside is that you’ll have to sell certain property that you can’t keep under bankruptcy laws
Chapter 13
Also called a wage earner’s plan, Chapter 13 provides for the adjustment of debts for individuals with regular income. It lets debtors keep more of their property at the cost of repaying debts over a longer period of time, typically three to five years. A big advantage of Chapter 13 is that it protects your home from foreclosure. The main downside is that you’ll have to repay all of the debts, which might take several years.
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