Bankruptcy is a legal method for settling overwhelming debts and starting anew financially. A bankruptcy court determines if a business or individual is eligible to declare bankruptcy, and a trustee is appointed to oversee the process until debts are discharged. While the process can be completed within six months, the bankruptcy declaration stays on an individual's credit rating for a minimum of 7 years.
Chapter 7 bankruptcies are the most common form of the legal process of discharging debt. It starts when an individual who is unable to keep up with payments on debts and does not have reason to anticipate a significant increase in income or decrease in debt.
Each of the U.S. District Courts has at least one bankruptcy court, for a total of 90 across the country. In order to file for bankruptcy, an individual submits documentation of income and debts to the clerk's office of the bankruptcy court in his home district. The clerk's office determines if all necessary materials have been submitted and sets hearing dates.
The court will allow Chapter 7 bankruptcy if the individual's income-to-debt ratio passes a "means test" which shows that his income is lower than comparable households and his debts are higher than comparable households. By filing for Chapter 7 personal bankruptcy, the individual essentially turns his finances over to a trustee for administration and must comply with the trustee's decisions until the case is closed. None of his creditors are paid under this type of bankruptcy.
Small businesses that do not have inventory (assets) and are based on the owner's skills may file Chapter 7.
There are limitations to how frequently an individual can file for bankruptcy, and conditions for allowing an individual to file. For instance, one cannot file for bankruptcy more frequently than once every 8 years; one cannot file for bankruptcy if he has committed fraud in accruing debt, such as hiding assets from a spouse during divorce or lying on a credit application. One also cannot file for bankruptcy if he has had a bankruptcy filing dismissed within 180 days or is in violation of a court order.
Chapter 7 bankruptcies are very common, as 475,000 individuals and 15,000 businesses qualified for this type of financial relief in 2016.
People most frequently file for Chapter 7 bankruptcy due to loss of income (unemployment), medical bills, divorce, business losses, or disability.
Certain types of debt cannot be erased by bankruptcy, including student loans and child support. Social Security income cannot be garnished by creditors during the bankruptcy process.
Bankruptcy trustees manage cases for the court, which acts as an administrative office. Trustees are chosen at random, and are generally accountants or tax attorneys who belong to the National Association of Bankruptcy Trustees, a professional group.
One of the trustee's first acts is generally to review an accounting of the individual's assets and debts. If there are assets that do not meet the "exemption" rule, such as home and vehicles necessary to maintaining employment, the trustee may order the superfluous assets sold to pay creditors.
It is the trustee's job to assemble the creditors and debtors at a Chapter 341 hearing, which is a necessary first step in the process. It is the opportunity for the different parties to discuss their roles and for creditors to get clarification of their expectations for payment. In cases of individual Chapter 7 bankruptcy, creditors are frequently not paid what they are owed because there are no assets to liquidate.