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Chapter 7 bankruptcy

Chapter 7 bankruptcy is a form of bankruptcy where your debts are canceled, but some of your assets are sold to pay off part of your debt.

Chapter 7 bankruptcy overview

Chapter 7 bankruptcy can give you a fresh start quickly, but it’s not right for everyone. Learn the basics of chapter 7 bankruptcy, including who is eligible and how bankruptcy affects your credit score.

Chapter 7 bankruptcy key terms

  • Debtor: A person who owes money. This is you. Creditor: A person or business a debtor owes money to. This may be your credit card company, hospital, friend who loaned you money, and others.

  • Trustee: The person who oversees your bankruptcy process. He or she reviews your filing, holds your 341(a) meeting, and liquidates any non-exempt assets you may have.

  • Discharged debt: Debt you are no longer legally responsible for paying.

  • Exempt assets: Things you own that are protected from your creditors by law; the trustee can’t use them to pay your debts. Specific items vary by state, but they usually include things like your home, professional equipment, and Social Security benefits.

  • Automatic stay: A ban on any collection efforts from your creditors that goes into effect as soon as you file for bankruptcy. Creditors may ask the bankruptcy judge to lift the stay, but they need a good reason.

  • 341 meeting: A meeting at which your creditors can ask you questions, under oath, about your assets and debts. You can’t skip this meeting.

How chapter 7 bankruptcy works

Chapter 7 bankruptcy, also called straight bankruptcy or liquidation bankruptcy, erases most or all of your debts. Certain debts are “non-dischargeable” or “priority debts,” meaning they cannot be erased by bankruptcy. You’ll still owe any balance on these when your bankruptcy is over, but all your other debts will go away. The whole process usually takes no more than 6 months. You may have to give up some of your assets to pay some of your debts. If you have a lot of these “non-exempt assets,” chapter 7 bankruptcy may not be right for you.

This is different from the other common form of bankruptcy, chapter 13, which requires you to pay off much of your debt over time. It usually takes from 3 to 5 years.

Chapter 7 bankruptcy is available to individuals and couples who meet certain requirements. Businesses can also file, but they’re not eligible for debt discharge, so they have to dissolve under chapter 7 bankruptcy.

Eligibility to file under chapter 7

To qualify for chapter 7 bankruptcy, you must pass a means test. This means you must generally fit into one of these categories:

  • Your income is lower than the median for your state.

  • Your income minus certain allowable expenses is below a specific level.

Allowable expenses are set by the IRS. Income is based on the most recent 6 months, and the level at which you qualify varies by state.

Even if you meet this test, you may not qualify based on certain things in your recent history:

  • You’ve gone through chapter 7 bankruptcy within the past 8 years.

  • You’ve completed chapter 13 bankruptcy within the past 6 years.

  • You had a bankruptcy case (any kind) dismissed within the past 180 days.

You must also get credit counseling before filing and financial management counseling before your debts will be discharged.

Effects of filing chapter 7 bankruptcy

Chapter 7 is a popular form of bankruptcy because it’s quick and mostly painless. But there are also some drawbacks.

Advantages of filing chapter 7 bankruptcy:

  • You get a clean slate quickly, usually in less than 6 months.

  • You can get started rebuilding your credit as soon as it’s over.

  • Unlike chapter 13, where your future earnings get pledged toward paying off your debt, everything you earn after filing chapter 7 is yours to use as you see fit.

Disadvantages of chapter 7 bankruptcy:

  • You lose any non-exempt property you may own.

  • It stays on your credit report for up to 10 years.

  • It will be hard to get a mortgage while it’s on your record. But not necessarily impossible. You may be able to qualify for an FHA-insured mortgage after 2 years.

  • New credit cards will generally come with high interest rates and possibly annual fees.

  • Other loans, like car loans, may also have very high interest rates and unfavorable terms.

Chapter 7 bankruptcy is a useful tool if you need it. Just be sure you understand exactly what you’re getting and how it will impact your life. A bankruptcy lawyer can help you decide if chapter 7 bankruptcy is the right solution for your situation.