Bankruptcy is designed to give debtors a way to temporarily stop collections efforts such as lawsuits, wage garnishments and collections letters while the debtor seeks long-term relief by either having much of their debt eliminated or restructured into a payment plan over a number of years. As the United States Supreme Court stated, bankruptcy gives “the honest but unfortunate debtor . . . a new opportunity in life and a clear field for the future, unhampered by the pressure and discouragement of preexisting debt.” (Local Loan Co. v. Hunt, 292 U.S. 234, 244 (1934)).
Article I, Section 8 of the United States Constitution empowers Congress to enact bankruptcy laws. The Bankruptcy Code was originally enacted by Congress in 1978 and was significantly amended in 2005. The Bankruptcy Code governs bankruptcy law and the Federal Rules of Bankruptcy Procedure govern the procedural aspects of bankruptcy. Court proceedings regarding bankruptcy matters are handled in Federal Bankruptcy Court.
Automatic Stay of Collection Efforts
When a debtor files a bankruptcy under one of the chapters of the Bankruptcy Code, an “automatic stay” goes into effect, which requires all creditors to stop all collection efforts against the debtor. The automatic stay effectively brings all lawsuits, wage garnishments, collections letters and phone calls temporarily to a complete halt. This gives the debtor an opportunity to “catch their breath” as they seek long-term debt relief. Creditors may not contact the debtor directly or attempt to enforce a debt in any way once they have received notice of a bankruptcy filing. The creditor can only seek repayment from the debtor in the bankruptcy proceeding once they have received notice of a pending bankruptcy proceeding. Creditors who wish to contest the bankruptcy must file an adversarial proceeding in bankruptcy court.
Types of Bankruptcy
There are six different types of bankruptcy; each of, which is known by the chapter of the Bankruptcy Code which, covers that type of bankruptcy. A qualified Maryland bankruptcy lawyer can determine which type of bankruptcy is appropriate for your needs and whether you meet the requirements for filing that type of bankruptcy. The six types of bankruptcy include the following:
This is typically called “straight bankruptcy” or “liquidation bankruptcy.” The purpose of this type of bankruptcy is designed to wipe out unsecured debt (i.e. credit cards, credit lines, utility bills, etc) and get an immediate “fresh start.” A Chapter 7 bankruptcy can be filed by individuals, married couples, and business entities. In theory, a trustee takes over all of the debtor’s non-exempt assets reduces them to cash and makes distributions to creditors subject to rights of secured creditors. As a practical matter, most Chapter 7 bankruptcy estates have no assets (called “no asset Chapter 7”) which means there is frequently nothing to be distributed to creditors.
Chapter 7 Exempt Property
Certain property is considered exempt from distribution by the bankruptcy court so the debtor retains the right to keep the property in a Chapter 7 bankruptcy. Under Maryland bankruptcy law, many types of property are exempt, but some key examples include the following:
• Household furnishing, goods, apparel, appliances, books and pets up to $1000
• Disability or health benefits
• Life insurance or annuity contract proceeds
• Medical benefits deducted from wages
• ERISA-qualified benefits, except IRAs
• Property of business partnership
• Items used for trade or profession up to $5000
• 75% of disposable wages
• Cash or any property up to $6000
This list is illustrative and not exhaustive so a debtor should consult a qualified Maryland bankruptcy lawyer. A Maryland bankruptcy lawyer can help a debtor find exemptions for many items the debtor would like to retain when filing a Chapter 7 bankruptcy.
Debts Not Subject to Liquidation
Even if a debtor qualifies for relief through a bankruptcy discharge in a Chapter 7 bankruptcy, certain debts cannot be discharged in bankruptcy. Some common examples of non-dischargeable debts include the following:
• Child Support
• Recent back taxes
• Most student loans
• Fines or penalties assessed by governmental entities
• Some recently acquired debts that may be considered fraudulent
Chapter 7 Bankruptcy Process
A debtor rarely ever appears in bankruptcy court in a Chapter 7 bankruptcy case unless objections are raised through an adversarial proceeding, which is fairly rare. Usually the only formal proceeding in a Chapter 7 bankruptcy will be a meeting of creditors at which the debtor is required to appear. At this meeting called the “341 meeting of creditors” or “341 meeting” the trustee will ask the debtor questions about his debts and property. The creditors can also ask questions but rarely do so. If the Chapter 7 is approved, the debtor will receive a discharge that relieves the debtor of all liability for dischargeable debt that is listed in the Chapter 7 filing.
Bankruptcy Abuse Prevention and Consumer Protection Act
The Bankruptcy Abuse Protection and Consumer Protection Act was enacted in 2005 and significantly limited the availability of Chapter 7 to some consumers. The amendment requires application of a “means test” to determine eligibility for relief under Chapter 7. Typically, a debtor’s income must be below the median income for families in the state based on Census Bureau statistics to qualify for Chapter 7. If a debtor makes over the median income in the state, one’s income during the last 6 months will be considered less mortgage and car payments, back taxes and child support due, and school expenses up to $1650 for the year. If after deducting these expenses and certain living expenses under the IRS code, the debtor can still pay at least $6000 ($100/month) to unsecured creditors over 5 years, Chapter 7 eligibility will be denied. Because of the 2005 amendment, some debtors who traditionally would have filed for Chapter 7 relief now must file for relief under Chapter 13.
Chapter 13 Bankruptcy
Chapter 13, which is entitled Adjustment of Debts of an Individual with Regular Income, is designed for a debtor with regular income. A Chapter 13 bankruptcy may be used by someone who does not qualify for a Chapter 7 under the means test or whom has non-exempt property the debtor does not wish to liquidate, which is most commonly the family home. Under a Chapter 13, a debtor proposes a plan to repay creditors over a 3-5 year period. At a confirmation hearing, the court either approves or disapproves the debtor’s plan. The court will look at the debtor’s ability to make the payments based on his projected income and expenses. This conclusion that comes from this analysis is often called “plan feasibility.” The debtor will typically maintain possession of the property of the estate and make payments to creditors through the trustee. The debtor is protected from collection efforts including lawsuits and garnishments during the time the plan is in effect. If the debtor successfully completes payments under the plan, the debtor receives a discharge.
Chapter 11 Bankruptcy
Chapter 11, entitled Reorganization, is usually used by business entities. The provision allows the business entity to continue to operate the business while in the process of a supervised reorganization in which the business implements a payment plan which has been confirmed by the court. Creditors receive a disclosure statement, which contains information that allows creditors to evaluate the plan. The debtor can reduce its debts by repaying a portion of its obligations and discharging others. A Chapter 11 bankruptcy allows the debtor to emerge with a reduced debt load and reorganized business.
Other Bankruptcy Provision
Chapters 7, 11 and 13 are by far the most extensively used bankruptcy chapters. However, there are three other chapters that apply in specialized situations.
• Chapter 9 provides for reorganization of governmental entities.
• Chapter 12 is effectively a special form of Chapter 13 for family fisherman and farmers.
• Chapter 15 applies to cross-border bankruptcies.
A debtor who needs bankruptcy relief should consult an attorney who can determine which type of bankruptcy is appropriate for the debtor and who can file for relief under the appropriate chapter of Maryland bankruptcy law. If you need a qualified Maryland bankruptcy lawyer, click here.