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Consumer Bankruptcy: Factors to Consider In Determining Chapter 7 vs Chapter 13 Bankruptcy

Chapter 7 vs Chapter 13: Bankruptcy Alternatives

We get lots of questions from attorneys and laymen about Chapter 7 vs Chapter 13 bankruptcy.  If nonbankruptcy alternatives are not feasible, most consumer debtors must choose between a liquidation proceeding under chapter 7 of the Bankruptcy Code and a debt adjustment proceeding under chapter 13 of the Bankruptcy Code. Consult The Attorney’s Handbook on Consumer Bankruptcy and Chapter 13 for additional information on the difference between Chapter 7 and Chapter 13 of the Bankruptcy Code. The following factors should be considered in determining whether chapter 7 or chapter 13 is more appropriate for a consumer debtor:

  1. The dischargeability of debts. There are 18 classes of debts that are not dischargeable under chapter 7 (see the Handbook for a list). Some types of debts that are nondischargeable under chapter 7 may be dischargeable under chapter 13. If a person has substantial debts that are dischargeable under chapter 13 but not under chapter 7, chapter 13 may be preferable to chapter 7 for that person. The eligibility of a person for a discharge may also be a factor to consider. A person who has received a bankruptcy discharge in the last 8 years is not eligible for a chapter 7 discharge, but may be eligible for a chapter 13 discharge, so chapter 13 may be preferable for that person.
  2. Retaining secured property. A person who is in default on an important secured obligation, such as a home mortgage or an automobile loan, is usually permitted to cure the default within a reasonable
    period under chapter 13 and thereby retain the secured property. The curing of defaults in secured obligations is not usually feasible in a chapter 7 case. However, in a chapter 7 case the debtor is permitted to redeem or set aside liens against certain exempt personal property.
  3. Retaining nonexempt assets. In a chapter 7 case a debtor must turn all nonexempt property (or its cash equivalent) over to the trustee. In a chapter 13 case a debtor is usually permitted to retain his or her nonexempt property, provided that meaningful payments are made to unsecured creditors. Therefore, if a person has a large equity in his or her home or other important nonexempt assets, chapter 13 may be preferable.
  4. Income. In order to qualify under chapter 13, a debtor must have “regular income”, which is defined as income sufficiently stable and regular to enable a debtor to make payments under a chapter 13 plan. If a person is unemployed or otherwise devoid of regular income, a chapter 13 case may not be feasible. On the other hand, chapter 7 may not be feasible for someone with sufficient income with which to pay $117.08 a month or more to unsecured creditors over a three-to-five year period because the chapter 7 case of such a person is likely to be dismissed by the court as an abuse of chapter 7.
  5. Attitude toward debts. If a person has a sincere and realistic desire to repay all or most of his or her unsecured debts, chapter 13 may be preferable. If a person desires to repay only one or two debts, the best practice may be to file under chapter 7, if he or she qualifies under means testing, and later reaffirm the debts that the person wishes to repay. Finally, chapter 7 is usually preferable for the qualified person who simply wishes to obtain a fresh financial start by discharging his or her debts as quickly and inexpensively as possible.
  6. Time and expense. Chapter 13 cases normally last from three to five years, with a discharge granted at the close of the case. Chapter 7 cases of typical consumer debtors last about six months, and a discharge is normally granted about four months after the case is filed. In chapter 13 cases, the attorney’s fees and administration expenses tend to be considerably more than in chapter 7 cases. If a person is not able or willing to make meaningful payments and otherwise comply with a chapter 13 plan during the entire duration of the plan and to bear the additional expenses involved, chapter 13 is probably not advisable for that person. Also, if anything is likely to occur during the duration of the case that would diminish or eliminate the person’s ability to make payments under a plan, then a chapter 13 case may not be advisable.