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Why Would Anyone File a Chapter 13 Bankruptcy?

As followers of this Blog know, Chapter 7 is the most common type of bankruptcy. This is the bankruptcy that discharges your debts. In exchange for that, a trustee is appointed who liquidates certain assets to pay your debts. However, you get to keep other items, i.e. the trustee cannot take them. These include your home with equity of up to $150,000, your car with equity of up to $6000, most household goods and appliances, a computer, and retirement plans.

A Chapter 13, on the other hand, is a reorganization bankruptcy where you pay your disposable income to the trustee for 3-5 years in order to obtain your discharge. Debts do not necessarily have to be paid in full. Disposable income means the income you have left over after paying your reasonable living expenses such as house payment, food, utilities etc. Paying $1000 per month to play golf would not be a reasonable expense.

When looking at these 2 types of bankruptcies, many clients ask me why someone would ever file a Chapter 13? After all, who would want to make payments for 5 years in a Chapter 13, when there are no payments in a Chapter 7 and you get your discharge in 4-5 months? The answer is that you can accomplish things in a Chapter 13 that you cannot do in a Chapter 7. Here are some of the reasons someone would file a Chapter 13 rather than a Chapter 7.

1) If your income is very high, the bankruptcy code may say you do not qualify for a Chapter 7.

2) A Chapter 13 can pay your taxes in full over 5 years, making IRS take payments that you can afford.

3) A Chapter 13 can stop a house foreclosure and allow you to make up the back payments over time.

4) Many of my self-employed small business clients file Chapter 13 because it allows them to keep their business. In a Chapter 7, it is very likely that the Trustee will take over or shut down your business.

5) In a Chapter 13, the trustee does not take any of your assets, you get to keep them all. I had a client who owned a sand rail. This was not exempt and the trustee would have taken it in a Chapter 7. We filed a Chapter 13 for her and she got to keep it.

6) Divorce debt (but not child support or spousal maintenance) can be discharged in a Chapter13 only. It cannot be discharged in a Chapter 7.

The Chapter 13 can be a powerful tool to allow you reorganize your finances and should never be overlooked when one considers their bankruptcy options.