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Tuesday, September 24, 2013

Some bankruptcy basics

Aggressive debt collectors are subject to bankruptcy laws and rulings
Government debt is excluded from bankruptcy
By Derek Smith

Bankruptcy can be a scary prospect for anyone who is struggling with overwhelming debt. Most people don’t consider it or even think about it until they are too deep in the proverbial ‘hole’. But what is bankruptcy really about? Does it mean you are doomed forever? Is it just a way of labeling people who can’t pay their debts? Here are some basic facts about bankruptcy that may help you understand it a little bit better.

What is bankruptcy?

Bankruptcy is a legal status as determined by a court of law. You are only truly bankrupt when you petition the court to declare you or your business ‘bankrupt’, and a judge agrees with you.  It is possible to file for bankruptcy and be declined the status and rather the court says you need to work out repayment with your creditors. Bankruptcy has many laws defining exactly how it works and who is or is not bankrupt and with regard to creditors, who is or is not entitled to being paid back by the bankrupt person or entity.

What is the purpose of bankruptcy?

Up until the beginning of the 20th century in the US, people who could not pay their consumer, private, or business debt were sent to jail. These were known as debtor’s prisons. As bankruptcy laws evolved, legislators began passing laws which limited the use of debtor’s prisons and all but eliminated such a punishment from existence. However, some debts are still subject to jail. This includes: taxes owed, child support debt, and contempt of court fines. All of which are essentially government debts. When the government is owed money, they will put you in jail; bankruptcy cannot protect you from that. But for every other type of debt, there are bankruptcy courts.

Bankruptcy laws are design to protect a person or entity from aggressive debt-collection activities of the creditors when the bills aren’t being paid. They help all parties sort out what is the true financial situation for the debtor and whether or not they can pay some, all, or none of their outstanding debt.

Often just before an entity files for bankruptcy, the aggressive collection activities of the creditors can be at a fever-pitch and for individuals already dealing with money problems, it can drive these folks to the edge. Bankruptcy, when appropriate, can actually restore order in someone’s life who is truly overwhelmed with debt. It legally calls upon the court to get involved in resolving the debts and protect the debtor from any further debt-collection.

Type of bankruptcy

In the US there are the following common bankruptcy types known as chapters:
  • Chapter 7: For individuals and business. It allows for discharging or some or ALL debts. Of course, government related debts and taxes are still excluded from discharge.
  • Chapter 11: Known as reorganization, it’s for individuals or businesses and allows for court approved debt repayment plans, required reduction in liabilities and expenses, and the selling of assets to help pay back creditors and still remain solvent.
  • Chapter 12:  Known as ‘Farmers Bankruptcy’, it applies only to farmers and fishermen. It works similar to Chapter 11 bankruptcy as a reorganization type of process.
  • Chapter 13 bankruptcy:  Reorganization process for individuals. This applies when an individual has substantial assets such as investments, stocks, bonds, or real estate, which can be liquidated to pay back creditors.  The court can order/ approve repayment plans so that all creditors get paid back and nothing is discharged.
Most often people wait until they are in such bad shape that Chapter 7 is their only option and therefore it is the most commonly filed bankruptcy chapter. While on the one hand, after it’s all over the person is essentially debt free, but; they are also asset free! 

Any valuable (or not so valuable) assets can be liquidated by the courts in order to pay some of the debt back. This includes jewelry, appliances, furniture, electronics, and clothes. People may be left only with the clothes on their back, literally! However, working with a bankruptcy attorney before it has gone too far may offer better solutions.

You can learn more about bankruptcy law from your local state government website. Remember, it’s not the end of the world and bankruptcy can and does help people resolve very difficult situations.

About the Author: Derek Smith is a freelance writer and blogger who writes for a Bankruptcy Law Blog.

* Image license: Lusi; RGBStock royalty free