Remember the lyrics from Chris Isaak’s song, “Baby Did a Bad Bad Thing”? That’s the stigma associated with filing for bankruptcy. But is it fair? The bankruptcy provisions were designed to help people and companies, so why do most think that filing equates to doing something bad? Sometimes life just happens, and there is no other way out.
Bankruptcy is a legal process designed to help individuals and companies get a financial fresh start by discarding, or making arrangements to repay, unmanageable debt. It can also be a way for companies to end the business and liquidate assets in an orderly fashion. It’s a safety net, and while it might not feel that way, there is no shame in using the U.S. bankruptcy laws to get a fresh start. That’s what the laws are there for.
So, let’s look at the different bankruptcy filings that are available. The type of filing you should select will depend on your financial situation and your goals. For example, are you trying to stop a repossession due to temporary loss of income? Or, are you dealing with a catastrophic situation where the debt is insurmountable, and you might be subject to wage garnishment from medical bills or credit cards?
Personal bankruptcy refers to a bankruptcy case filed by an individual or married couple. Married couples are not required to file together, as the law allows for a separation of property and for one or both spouses to file separately without affecting the other. Depending on your circumstances, one spouse filing bankruptcy might be the best option.
Chapters 7 and 13 are the most common types of personal bankruptcy. Filing bankruptcy under Chapter 7 is often the most direct path to a fresh start for folks struggling with things like credit card debt, medical bills or even a wage garnishment. To be eligible for Chapter 7, you must pass the means test. This shows the bankruptcy court that your regular income isn’t enough to pay even a portion of your debts. Under this provision, you pretty much get a fresh start and all debts included in the bankruptcy filing are wiped clean.
Filing bankruptcy under Chapter 13 is another way an individual can file for protection. This provision doesn’t wipe the slate clean of your debts. It is a reorganization of the debts and involves a repayment plan that usually pays a portion of the total debt back over time. The plan is based on a budget submitted to the court, and if it is approved and payments are made on time, all residual debts under the plan are eventually wiped out.
Whether filing under Chapter 7 or 13, each individual must declare all assets and determine if the assets they own are “exempt” or “nonexempt” for discharge purposes. If the assets are exempt, you can’t be forced to sell the asset to satisfy any debt obligation. Nonexempt assets are usually sold and used to satisfy debt obligations. As you can see, the classification of assets is very important and could have adverse effects on the filing if not done properly.
Simply put, a business bankruptcy case refers to bankruptcy proceedings for a business. In general, businesses usually file under Chapter 7 or 11.
Businesses filing under Chapter 7 bankruptcy are in the process of shutting down and going out of business. All the business assets are sold, and unsecured creditors are paid in order of priority. There is no exemption for any assets. Everything is sold, and the proceeds are used to pay off the bills and creditors.
A bankruptcy proceeding under Chapter 11, on the other hand, can be used to restructure the business as it relates to its financial obligations. Immediately after a bankruptcy case is filed, an injunction is generally imposed against certain creditors who want to start or continue taking action against a debtor or the debtor’s property. This is called an “automatic stay.” The bankruptcy protections granted by the automatic stay give the business an opportunity to propose a payment plan.
In addition to Chapters 7 and 11, there is the Small Business Reorganization Act of 2019, also known as Subchapter 5, which went into effect on Feb. 19, 2020. This new piece of the U.S. Bankruptcy Code provides for a more compact and easier version of Chapter 11 reorganization for small business corporate and individual debtors.
Bankruptcy is generally considered a last resort for people and companies who are deep in debt and see no way to pay their bills. But there might be other avenues that are worth exploring. Of course, business bankruptcies are different then individual bankruptcies and have different financial and tax ramifications, as well. So, before filing bankruptcy, seek professional tax and legal counsel to determine all the options available and what is best for your situation.
In summary, there is hope, and there are avenues to seek under the U.S. bankruptcy laws that can and will give you a fresh start. Is bankruptcy a last resort or a lifeline? It can be both.
To learn more about bankruptcy and other options, reach out to our experts.
