What is Chapter 7 Bankruptcy?
Fresh Start Bankruptcy
Chapter 7 bankruptcy goes by many names.
But it all means one thing…
Nearly all your bills go away!
What more could you ask for? Well, for starters:
A Chapter 7 bankruptcy is sometimes referred to as a liquidation bankruptcy. It is also called a complete bankruptcy, total bankruptcy, or a fresh start bankruptcy. A Chapter 7 bankruptcy is filed by individuals and businesses entities. It can be deal with both consumer and non-consumer debt for individuals. Our office focuses on consumer bankruptcies and small business cases.
Qualifying for a Chapter 7 Bankruptcy
If your debts are mostly consumer debts then you have to qualify for a Chapter 7 bankruptcy. Consumer debts include any obligation used primarily for a personal, family, or household purpose. This includes personal loans, credit cards, automobile loans, the loan on a house you live in, student loans, and some medical debts.
In a Chapter 7 consumer bankruptcy the basic hurdle is showing that after you file the bankruptcy case you would not have any money left over to make a meaningful repayment to your unsecured creditors. Unsecured creditors are debts like credit cards, personal loans, medical debts and student loans. We start this analysis by looking at your income over the last six months. How you are treated depends on whether you are considered below or above the median income.
If your average income over the last six months, before deducting for taxes, insurance or other costs, is below the median income for a household of your size then there is a presumption by the court that it would not be an abuse for you to file a Chapter 7 bankruptcy. You still must take your actual monthly income and subtract your basic monthly expenses and then look to see if there is any money left over. If there is money left over but it is not enough to make a meaningful repayment then you will pass the test. How much is too much is really dependent on how much you owe your creditors. If you owe a lot of money and there are only a few hundred dollars left over each month then you will qualify for a Chapter 7. The median income numbers are taken from tables compiled by the Internal Revenue Service and differ from state to state. An easier way to think about this is to look at your income and expenses if you were not paying the debts that would go away in a bankruptcy and imagine if there were be money left over.
If your income before taking deductions is above the median income for a household of your size then there is a presumption that it would be an abuse for you to file a Chapter 7 bankruptcy. That does not mean it is impossible for you to file a Chapter 7 bankruptcy but to overcome this presumption you must fill out a bankruptcy form known as the Means Test. The Means Test is a form designed to limit many of your expenses when determining if you qualify for a Chapter 7 bankruptcy. You must pass the Means Test in order to qualify for a Chapter 7 bankruptcy if you are above the median income.
The Means Test
To better understand the Means Test it is helpful to know how it became part of bankruptcy law. Before the Means Test was enacted all you had to do to qualify for a Chapter 7 consumer bankruptcy was show that you did not have enough money after paying your monthly expenses to make a repayment to your creditors. You could use the same expenses you had prior to filing the bankruptcy case. In many courts if you had a high standard living you could maintain that standard of living even after you filed your bankruptcy case. This allowed people who were filing with very high incomes and very high basic expenses to qualify for a Chapter 7 bankruptcy.
Some of these cases caused complaints from creditors and members of the public. The credit card industry lobbied congress to remove the discretion of local bankruptcy judges to determine what were allowable expenses and instead impose a formulaic test if your household income was above the median income for your state. This formulaic test became known as the Means Test and went into effect in 2005. It was put in place to deal with a few hundred cases that were potentially abusive and now is applied in some way to hundreds of thousands of cases each year. As a solution it was swatting a fly with a cannonball.
There is some income that is automatically not included when looking at the Means Test. If you have Social Security income, Social Security Disability income, or VA Disability income then it is excluded from the Means Test. If you file a case you will still list that income in your budget but it cannot be used to disqualify you for a Chapter 7 case.
The Means Test limits expenses such as food, clothing, utilities, rent, car insurance, cost of operating a vehicle, recreation, home maintenance, educational costs for children and miscellaneous items for people who are above the median income. Those types of expenses have a flat number that is inserted under the formula rather than your actual expenses. The Means Test also deducts the actual expenses you have for mortgage, taxes, health insurance and health care expenses, and daycare costs. The Means Test for a Chapter 7 bankruptcy does not allow for voluntary contributions to retirement accounts to reduce the potential money available to your creditors.
If you are above median income and you can show through the Means Test that you do not have enough income to make a meaningful repayment to your creditors then you can file a Chapter 7 bankruptcy. It is possible to file a Chapter 7 bankruptcy even though you do not pass the Means Test if you can show that there is a change of circumstances in the last six months or the near future that will make it impossible for you to make a meaningful repayment to your creditors.
Non-Consumer Chapter 7 Bankruptcy Cases
If you are filing a non-consumer Chapter 7 bankruptcy then there is no income qualification. A non-consumer case is one in which less than half of your debt was used primarily for a personal, family, or a household purpose. For example, a person with a small business that has tax debt and loans from the business that are more than their personal debt (credit cards, mortgages, car loans) will have a non-consumer case. They do not need to worry about making too much money to qualify for a Chapter 7. In a non-consumer case it does not matter whether you have the income to make a partial payment to your creditors. Non-consumer cases make up a very small percentage of all bankruptcy cases filed. A non-consumer Chapter 7 case will still take care of the consumer debt in the case.
When you file a bankruptcy you must disclose all of your assets, your income, and your debts. You do not get to leave anything out. You also have to answer a series of questions about your past transactions including payments to creditors and gifts to other people. You also disclose your current income and the last several years of income. Even if you think something is not worth disclosing you should tell your attorney and make sure it is listed.
Chapter 7 Bankruptcy Prerequisites and Documentation Requirements
The documents you need to provide to file a case include your photo identification, social security card or proof of social security number, paystubs, last two years tax returns, and any bills you are receiving. Your attorney should pull a credit report and run a local check on the state court websites for cases that you have outstanding.
The documents filed in a Chapter 7 bankruptcy case include the petition, schedules disclosing assets, creditors, income and expenses, a statement of financial affairs, mailing matrix, means test, declaration of electronic filing, paystub declaration and disclosure forms. If you have an attorney they should also have a written contract outlining their services.
Before your case can be filed you have to complete a credit counseling class. The courses can be done in person, over the phone, and on the internet. Most attorneys have a specific course they want you to use because they have an account to track their clients. The classes usually take about an hour to complete and ask you basic questions about your assets, debts, income and expenses. You usually have to speak with a counselor or chat with them online before the course is completed. Once you have the certificate from the course the bankruptcy can be filed.
In most Chapter 7 cases you will pay your attorney fees before filing the case. A typical Chapter 7 case in our office will cost $1,500 for a basic case. We ask for fees before filing because we are dischargeable in the bankruptcy just like the rest of the creditors. We have never sued a client for fees and never sent anyone to collections for attorney fees. The filing fee for a Chapter 7 bankruptcy is $335 and this should be paid in advance as well. There are cases where the filing fee can be paid in installments after the case is filed.
When a Chapter 7 Bankruptcy is Filed
Once a case is filed with the bankruptcy clerk’s office an Order for Relief is sent out to all the creditors listed in the case. The Order for Relief informs all the creditors that the Automatic Stay is in effect. This is the law that forces creditors to cease bothering you and tells them to come to the bankruptcy court to address their issues. The Order for Relief also tells your creditors that there is a hearing scheduled in your case. The hearing is known as the First Meeting of Creditors but In the vast majority of cases no creditors appear.
A Chapter 7 trustee is assigned to your case when it is filed. The name and contact information for the trustee will be on the notice that goes out from the court when the case is filed. The trustee conducts the hearing about 30 days after the case is filed and any of your creditors can show up an ask you questions.
The trustee will look at the property you have in your case and determine if there are any non-exempt assets that can be seized or sold for the benefit of your creditors. In Kansas, your home, household goods and furnishings, clothing, and retirement accounts are exempt. That means they are protected by law from seizure by the Chapter 7 trustee. The equity in your vehicle up to $20,000, jewelry with a value of up to $1,000, and tools of the trade with a value of up to $7,500 are also protected.
Extra automobiles, cash on hand, boats, collectibles, firearms, a portion of you tax refund and numerous other items are not protected by law. They can be seized by the Chapter 7 trustee and sold for the benefit of your creditors. A bankruptcy attorney should go over all the property you have to determine what is protected by law. In many cases the items you have that are not protected by law are not worth seizing and the Chapter 7 trustee will abandon them.
The Chapter 7 trustee can also undo certain transactions or recover certain payments you have made to other people before filing the bankruptcy. If you have transferred property before filing the bankruptcy the trustee might be able to pull that property back into your case. They can also recover money that is owed to you.
Chapter 7 Bankruptcy Asset Cases and Secured Creditors
If the Chapter 7 trustee seizes property then the case is an asset case. The trustee has to file a report about the assets and notice up the creditors so they can file a claim and share in the in the money that is recovered. If there are no assets recovered then the trustee files a no asset report.
It is important to understand that your Chapter 7 bankruptcy cannot be dismissed without the permission of the court. If your bankruptcy trustee begins to seize property or sue people you know to recover money for your estate you may want to get out of the case. You cannot get your case dismissed because you do not approve of the collection of money or assets by the Chapter 7 trustee. The Chapter 7 case is a one-way street that you cannot get off of if you do not like the outcome. This is in stark contract to the ability to voluntarily dismiss a Chapter 13 case.
If you have secured creditors such as a car loan or home loan then you may treat them differently than credit cards, personal, loans, and medical bills, after the case is filed. Although the Chapter 7 bankruptcy trustee cannot seize items that are exempt by law, if those items secure a loan they can be seized by a creditor if you do not continue to make payments on them. If you want to keep your car and your home after filing a bankruptcy and you owe money you must continue to make the payments. In some cases you or the creditor (or both of you) may want to enter into a Reaffirmation Agreement. This agreement treats the creditor as though no bankruptcy were filed against them. If you default on such an agreement later on then it is possible you could be sued on the debt.
A Reaffirmation Agreement often includes a budget that shows you can make the payments on the item after filing. It also is signed off on by you, your attorney, and the creditor. It then goes before the Bankruptcy Judge. If the Bankruptcy Judge believes it is an undue burden to you they will not approve the Reaffirmation Agreement. Otherwise it is approved. There are cases where you may want a Reaffirmation Agreement but not be able to get one. In the majority of those cases it has no effect on your ability to keep property. As long as you make the payments you should be fine.
Wrapping Things Up
After filing the case you must do a second financial education class. It also takes about an hour and is an educational course to help people manage their finances. The course must be done before you can complete your bankruptcy case and get a discharge. This class can also be done in person, over the phone, and online. Your attorney should also have a vendor for this class that they want you to use. Be careful not to take a class based on junk mail that you receive. Talk to your bankruptcy attorney first.
About 90 days after the initial hearing a discharge is issued. The discharge creates a permanent court order that prevents creditors listed in the case from ever collecting on their debts. There are exceptions to discharge in Chapter 7 cases that include student loans, debts owed for child support or maintenance, debts owed to an ex-spouse out of a divorce proceeding, certain tax obligations, and debts that were incurred through fraudulent behavior. This is not an exhaustive list and your bankruptcy attorney should go over it with you.
A creditor can challenge whether their particular debt is dischargeable by filing an adversarial proceeding and asking the court to determine that it should survive the bankruptcy. This is usually called a contested proceeding and is a type of litigation in the bankruptcy courts. There are strict timelines for this so if someone is going to file a complaint it will be done long before your discharge is issued. One of the main differences between consumer and non-consumer cases is that there is much more litigation on adversarial proceedings in non-consumer cases. This is because non-consumer cases usually involve larger amounts of money and accusations of wrongdoing in business transactions. Consumer cases rarely have adversarial proceedings by creditors.
It is possible to get a discharge in a Chapter 7 bankruptcy and still have the trustee seize assets afterwards. The discharge is often granted before the trustee has had time to examine all the assets in a case. Sometimes they are waiting on a tax return or some other item. It is important to understand that although a discharge may have been granted in a case it does not mean the case is closed if it is an asset bankruptcy. In most cases an asset bankruptcy will be over within a year of filing but they can drag out in some cases for years. Always make sure a no asset report has been issued before you assume the case is completed.
In most cases once the discharge is issued there is nothing left for you to do. The case is completed and will be closed as soon as the trustee files their final report. After the case is closed you will find that life goes back to normal within a few months. Most people after a Chapter 7 bankruptcy are able to obtain credit shortly after the discharge in the case. In many cases your credit score is better two years after the case then it was prior to the case being filed.
If you are considering a Chapter 7 bankruptcy then you should reach out to our office for a free consultation. We are happy to talk over the phone, respond to email, conduct a zoom meeting or meet in person. We can go over all the options in Chapter 7 bankruptcy and let you know what is needed to determine your ability to qualify for a case. You do not pay any fees until you are ready to move forward.
We have spent our careers at Coons & Crump handling individual bankruptcy cases. The attorneys in this office have filed over 4,500 cases representing over 6,000 people and have over 30 years of combined bankruptcy experience. The paralegals have over 60 years of combined bankruptcy experience. If you need help we can guide you in the right direction. Most cases are simple but the problem is knowing whether or not yours is – call us and we can go over things with you to help you avoid the pitfalls and problems that can happen in Chapter 7 bankruptcy cases.