The two most common types of bankruptcy filed by individuals are Chapter 7 and Chapter 13. Many people who are considering bankruptcy have heard these terms, but are unsure how the two types of bankruptcy are different, or which one they should choose. Both provide debt relief, but in different ways. Here are the main differences.
Qualifying for Chapter 7 versus Chapter 13
To qualify for Chapter 7 bankruptcy, most people must meet strict income requirements. The income of the person’s household must be less than the median (50th percentile) income for a household of the same size. The median household income varies by the number of people in the household, and by region. If the household income is above median, it is still possible to qualify, if the household’s disposable income does not exceed a specific threshold. The disposable income is determined by deducting allowable expenses from the household income. Not all expenses that a person may have can be counted in bankruptcy, and calculating disposable income requires an understanding of the law and which expenses may or may not be counted.
Chapter 13 does not have a similar income requirement. To qualify the person’s debts must not exceed specific limits, which also fluctuate from year to year. There are separate limits for unsecured debt and secured debt. In addition, in order to file the person filing must have regular income.
Probably the biggest difference between Chapter 7 and Chapter 13 is the payment plan. Chapter 7 does not require the person filing (the debtor) to make any payments to creditors. After complying with the procedural requirements all debt that can be eliminated is eliminated. Chapter 13, on the other hand, requires the debtor to make payments to creditors for 3 to 5 years. At the end of this payment plan, all unpaid debt that can be eliminated is eliminated.
How long each bankruptcy takes
Chapter 7 is completed much faster than a Chapter 13. Generally, from the date of filing to the date of discharge takes about 4-5 months. On the other hand, in most circumstances Chapter 13 bankruptcy takes a minimum of 3 years, because that’s normally the minimum amount of time that the payment plan must last.
Effect on debtor’s property and assets
The laws that apply to Chapter 7 bankruptcy determine what happens to the filing person’s property and assets. The debtor can keep all exempt assets. However, the bankruptcy trustee can take the non-exempt assets, sell them, and distribute the money to the creditors.
In Chapter 13 bankruptcy, the person filing for bankruptcy can keep all of his or her assets. But, the value of the non-exempt assets may affect the amount that has to be paid to unsecured creditors under the Chapter 13 plan.
Removing or modifying liens
Chapter 7 is not designed to deal with liens. Whatever liens exist when the bankruptcy is filed, such as vehicle loans or mortgages, will remain unchanged through the bankruptcy. On the other hand, Chapter 13 allows for the modification of certain liens. For example, if the amount of a car loan is higher than the value of the car, the car loan can be reduced to the value of the car. In addition, Chapter 13 allows for the second mortgage on a house to be removed in certain circumstances.
Catching up on missed secured payments
Chapter 7 cannot help those who are behind on mortgage or car payments, and need to catch up, because it is not designed to deal with secured claims. However, because Chapter 13 involves a payment plan, it provides the debtor the ability to catch up on missed mortgage or car payments over time, up to 5 years.