What is Chapter 7 Bankruptcy, and How Does it Work?

What is Chapter 7 Bankruptcy, and How Does it Work?
Corey Beck

Bankruptcy is a serious matter for both individuals and businesses. In fact, statistics show that there were 22,780 business bankruptcies and 752,160 personal ones filed in the United States in 2019. 

As such, eliminating debts is a crucial step if you want to achieve financial freedom. One of the most common ways to do this is by filing for Chapter 7 bankruptcy. However, before doing so, there are important things you need to know.

In this article, we’ll explore what Chapter 7 bankruptcy is, how it works, who can file for it, what debts it wipes out, and more.

What is Chapter 7 Bankruptcy?

Chapter 7 bankruptcy wipes away many types of unsecured debts. Also called straight or liquidation bankruptcy, this eliminates unsecured debts. In most cases, individuals filing Chapter 7 bankruptcy can keep their property because the assets are exempt.

Likewise, while it gives you a fresh start in your financial life, the filing and discharge of the bankruptcy case is reported to your credit profile. However, most of my clients have good fico scores within a year as the debt to income ratio becomes very good after the filing of bankruptcy.

petition to file chapter 7 bankruptcy paperwork


How Chapter 7 Bankruptcy Works

Chapter 7 bankruptcy follows a specific process.

Counseling

Debtors must attend a session with a credit counselor before the case can be filed and the process begins. Like many potential debtors, you might not know your financial options, so counselors can recommend alternatives to bankruptcy. You will also participate in a financial management course before receiving a discharge.

People filing bankruptcy can utilize any approved credit counselor. I have a list of counselors who my clients have used over the years. A lot of information can be filled out online, or sometimes via chat. Finally, evening and weekend appointments are available. In addition, there are Spanish-speaking counselors.

Filing of Forms

To begin the official Chapter 7 bankruptcy proceedings, you need to complete forms and a petition to the court. These forms include your personal information like assets, creditors, expenses, income, and other finances.

woman pulling credit card out of wallet

After filing these, the court enacts an automatic temporary stay on your debts. For your protection, this prevents creditors from collecting payments, cutting your utilities, foreclosing or evicting you from your home, garnishing your income, or repossessing your property.

In addition, under the Bankruptcy Code of 2005, there is a means test to complete your filing. This compares your household income and expenses against the median figures in your area or state. Essentially, it calculates your capability to pay a portion of your debts.

There are a lot of exceptions to the Means Test. In particular, a person can be above "median" but have expenses "adjustments to in Means Test" which justify their filing of their case. Moreover, if a majority of debt is business-related, the “means test” does not apply.  

Appointment of Trustees

The court will then appoint an unbiased bankruptcy trustee.

The trustee is responsible for reviewing your assets and finances, and overseeing the legal process of your Chapter 7 case. They will also determine which assets are to be liquidated and non-exempt property are to be sold, allowing you to repay your creditors.

Meeting of Creditors

The trustee schedules and runs meetings, often called 341 meetings, where creditors can come in and ask questions about your financial circumstances.

As a practical matter, creditors rarely attend meetings of creditors.

During this meeting, the trustee will also ask questions about your finances and petition to validate that all information in the filed documents is factual. Likewise, they will reinforce to you the consequences of filing for bankruptcy and receiving a discharge.

By law, the trustee may continue meeting the creditors if they need to investigate further some aspects of your case.

Discharge of Debt

If the trustee and the creditors have no objections on the grounds in the petition, the court will grant you a discharge of debt. This releases you from any personal liability for payment. It also prevents creditors from collecting debt against you as long as the creditor is scheduled and receives notice of the bankruptcy case.

The Chapter 7 bankruptcy process takes approximately three months, once the case is filed. The meeting of creditors is held about a month after filing. Upon conclusion of the meeting of creditors, a no asset report is filed in cases where there is no money for distribution to creditors. The Order of Discharge is issued approximately 60 days from the 341 meeting of creditors.

Also, discharge is only available to individuals, and not to partnerships or corporations.

Chapter 7 Eligibility 

There are some requirements you need to meet to qualify for a Chapter 7 bankruptcy. These include:

  • Completing an individual or group credit counseling course from an approved agency at least 180 days before filing. There are exemptions in emergency situations and/or if the court or trustee finds insufficient approved counseling agencies within your area.
  • Having past six months average monthly income that is less than the median income of the same-size household in your state.
  • Passing the means test.
  • Not having filed a Chapter 7 or Chapter 13 bankruptcy in the past eight or six years, respectively.

If you have filed a Chapter 7 or Chapter 13 case previously and it was dismissed, you may need to wait 181 days before filing again. The court has the discretion to dismiss your case if it finds probable cause that you’re attempting to defraud your creditors.

What Debts are Discharged in Chapter 7?

Generally, Chapter 7 bankruptcy discharges you of:

  • Credit card debts
  • Deficiency balances
  • Medical bills
  • Personal loans
  • Secured loans backed by a collateral
  • Unsecured debts

It’s important to note that the following debts cannot be discharged:

  • Alimony
  • Child support
  • Court fees and penalties
  • Federal student loans
  • Government debts
  • Homeowners association fees
  • Income taxes that are older than three years may be discharged through a bankruptcy case
calculator

The Consequences

Chapter 7 bankruptcy has negative consequences to your credit for years, so it’s essential to know that it’s the right path for you. 

First, while creditors are no longer allowed to recover debt after your discharge, some may still attempt to do so. Be sure you keep copies of all the bankruptcy documents that you file.

Likewise, you cannot file or receive another Chapter 7 within eight years of discharge or a Chapter 13 within six years. Thus, being careful, prudent, and financially smart is vital after going through Chapter 7.

Remember that filing and discharge of the bankruptcy case is reported to your credit profile, but your credit score can improve because your debt to income ratio will be favorable after the filing of a bankruptcy. In addition, the bankruptcy reporting has less effect on the credit score over time.

With so many moving parts and things to consider, filing for Chapter 7 bankruptcy can get confusing and overwhelming for many. Luckily, you don’t have to do it by yourself.

At the law firm of Corey Beck, we specialize in Chapter 7, Chapter 11, and Chapter 13 bankruptcy, bankruptcy litigation, business bankruptcy, and legal help for small business owners. From understanding who can file, when to file, and what to do after filing for bankruptcy, we help our clients every step of the way. 

Contact us today to find out how we can assist you.

Recent Articles

Need professional legal advice?

Request a free consultation today
Request Consultation