The pandemic has affected many businesses and Americans negatively. Add inflation to the mix, and many people are now considering debt relief options such as Chapter 7 or Chapter 13 bankruptcy.
It’s extremely important to understand the differences between these two options.
While both chapters offer debt relief and put an end to creditor harassment, there are significant differences between the two. Here is an overview of the two types of bankruptcy to help you decide which to file;
Chapter 7 Bankruptcy
Chapter 7 bankruptcy is liquidation bankruptcy where assets that don’t fall within the bankruptcy exemptions are sold, and the proceeds are used to repay the debtor’s unsecured debts. Although Chapter 7 focuses on liquidation, most people don’t lose their property. In cases where an individual loses property is when the person files a Chapter 7 case without understanding the bankruptcy exemptions.
Chapter 7 bankruptcies are restricted to businesses or individuals with mainly business debts. As an individual, there are some income requirements that you must meet to be eligible to file a Chapter 7 case.
However, these income requirements are only applicable to people with consumer debts. People whose debts are mainly business-related, like sole proprietor debts, cosigned business loans, or personal guarantees for business-related debts, don’t need to meet these income requirements. These rules also do not apply in a business. However, once a business files a Chapter 7 case, the business closes, and the trustee liquidates it.
Filing Chapter 7 bankruptcy has its pros and cons that you should consider before filing. They include:
Pros
- Chapter 7 offers a quick way to eliminate debt since most cases are closed between four and six months after filing.
- You can eliminate debt by surrendering the property servicing as collateral to the creditor even when the asset is worth less than the secured lien. The creditor also is prohibited from taking any action to collect the difference.
- The cost to file bankruptcy, specifically Chapter 7 bankruptcy is often much less when including attorney fees.
Cons
- You can lose property not protected by bankruptcy exemptions.
- Some debts cannot be discharged, like alimony, child support, student loans, and tax debts. So, you will need to repay these debts after the case is closed
- You cannot keep your home, car, or other assets if you cannot afford to make payments.
- You generally have to qualify by using the bankruptcy means test.
Chapter 13 bankruptcy
It is a bankruptcy chapter that gives you the option to restructure your debt and follow a new repayment plan. However, it is ideal only for individuals with a steady income. So, if you are self-employed, you can file a Chapter 13 bankruptcy, but a business cannot file for Chapter 13 bankruptcy. If you run a business that would like a flexible debt repayment plan, you can file for Chapter 11 bankruptcy.
Most Chapter 13 repayment plans have a maximum term of 60 months. But, if your income is below the median income in the state, you can choose to have a 36-month repayment plan. The amount you pay monthly will depend on your income, assets, expenses, and debts. Your recent financial transactions can also affect your plan, depending on your case.
You can use an online Chapter 13 calculator to estimate your payments if you file for Chapter 13 bankruptcy relief. Chapter 13 bankruptcy offers its advantages and disadvantages listed below;
Pros
- You can file a Chapter 13 bankruptcy case to stop repossessions and foreclosures. You can pay any due mortgage or car loan payments in your Chapter 13 repayment plan
- While attorney fees for a Chapter 13 lawyer are higher, an attorney can induce their fees or part of their fees in the repayment plan, making it manageable to pay
- You can add past-due support payments or old tax debts to the repayment plan
- Chapter 13 helps protect property that you might lose through liquidation if you file a Chapter 7 bankruptcy case
Cons
- Most cases take 60-months to commit, which is a relatively long time
- You cannot incur debt or sell your assets without petitioning the court for approval during the duration of your repayment plan
Should You File Chapter 7 vs. Chapter 13: 3 Factors to Consider
You should consider three main factors when deciding which Chapter to file;
1. Income Requirements
How much do you earn? To file for Chapter 7 bankruptcy, you must meet the Chapter 7 income limits requirements. You can take a Chapter 7 means test to see if you are eligible to file. If your median income is higher than the median income in your state, the state considers you to have enough disposable income to make minimum payments to your unsecured lenders. So, you might not be eligible to file Chapter 7 and, instead, may be forced to file under Chapter 13.
2. Repossessions and Foreclosures
Have you fallen behind on making your mortgage payments? Chapter 7 may not be the best option for you since you will need to catch up on the missed payments, refinance your mortgage loan or get a mortgage modification. Nonetheless, you can file a Chapter 13 case to stop foreclosure. The flexible repayment plan under Chapter 13 allows you to catch up on the missed payments.
Similarly, if you are falling behind on your car payments, a Chapter 7 case may not be best for you. The lender will demand full payment for a missed payment or ask the loan to be paid in full. So, it could lead to further strain. However, in Chapter 13 bankruptcy, you can spread out the car loan payments to lower the payments and make them more affordable. Depending on the specifics of your cases, you can choose to cram down the amount you owe if the car is valued less than the loan payoff, provided you owned the car for910 days or more before filing bankruptcy.
3. Equity in Assets
Bankruptcy exemptions can only protect the equity in your assets to a certain amount. So, if you own assets worth more than the exemptions, you risk losing the property if you file a Chapter 7 case. But, you can file Chapter 13 and retain the property.
Alternatives to Bankruptcy
Now that you understand both Chapter 7 and 13 bankruptcy at length, you can decide whether either of these options are good or whether you should pursue bankruptcy alternatives.
However, you can consider other debt relief options other than bankruptcy, for example, debt consolidation, debt settlement, and debt management. Although these options may not be as popular as bankruptcy, they have worked for many people.
Conclusion
Bankruptcy can be a daunting task, and hopefully this Chapter 7 vs Chapter 13 bankruptcy guide helps you understand your options.
Use a bankruptcy quiz to compare different debt relief options to find a cheaper and more affordable way out of debt.