Two types of bankruptcy are popular among individual debtors: Chapter 13 and Chapter 7. In a Chapter 13 bankruptcy, you pay all or a portion of your debts over time, following an approved payment plan. Chapter 7 bankruptcy, by contrast, is the liquidation of your nonexempt assets -- if you have any -- to pay creditors. Nevertheless, you don't lose all your assets in a Chapter 7 bankruptcy -- and are granted a discharge of debts.
A secured debt is a debt secured by collateral, or an asset, such as a mortgage secured by a home. If you default on the debt, your creditors can seize the asset. After you file your bankruptcy petition, you are required to complete a statement of intent that identifies both your secured debts and the creditors that hold an interest in them. You must also state whether you intend to surrender or retain these assets. If you intend to retain them, you must state whether you intend to redeem the assets by paying your secured creditors their replacement values, or by reaffirming the debts, which means you will continue making payments, so the assets are not subject to liquidation.
In Chapter 7 bankruptcy, some property is exempt from bankruptcy proceedings. This means that you are allowed to keep certain property up to a certain amount of value as determined by either federal or state law. The federal bankruptcy code includes a specific list of exemptions. Even though bankruptcy law is primarily federal law, state laws also have their own lists of exemptions. Some states, such as Florida, require you to use state exemptions if you qualify for them, while other states allow you to choose between state and federal exemptions. An asset used to guarantee a purchase money loan, or that guarantees the payment of a tax debt, is still subject to seizure even if it is exempt.
Exempt and Nonexempt Assets
The most common type of bankruptcy exemption is the homestead exemption, which allows you to keep your primary residence. Typically, this exemption applies only up to a maximum value. If your home exceeds this value, it is subject to liquidation, but you will receive a portion of the sales proceeds equal to the maximum exemption value. You can also exempt your primary automobile and your personal property up to a certain value. Certain benefits such as Social Security and pension plans are also generally exempt. Other types of property, such as a second home, a second automobile and stock market investments are nonexempt and are subject to liquidation. Generally, you are allowed to keep the contents of your bank account up to a certain amount. However, if you have an account in a bank to which you also owe money, that bank may refuse to release your funds to you once you file Chapter 7. You can transfer your funds to another bank before you file bankruptcy.
Qualifying for Chapter 7
Not everyone qualifies for Chapter 7 bankruptcy. Generally, to qualify for a Chapter 7 discharge, you must prove that you unable to pay your debts. You generally qualify to file Chapter 7 if your debts are primarily non-consumer, or business, debts, or if your income is below the median income for your geographical area. Otherwise, you must take a means test. The means test is based on an algorithm that computes your eligibility based on your income, expenses and debts -- and determines your disposable income. If you qualify for Chapter 7, the court will appoint a bankruptcy trustee to liquidate your nonexempt assets and distribute the proceeds to your creditors. Many bankruptcy debtors, however, have no nonexempt assets to distribute.