WHAT IS BANKRUPTCY?
Chapter 7 is a speedy form of bankruptcy that can eliminate most if not all of your unsecured debts. Wipe the slate clean from credit cards, medical expenses, deficiency balances on automobile leases, repossession fees, personal loans, personal lines of credit, personal guarantees for businesses or other people that unfortunately left you stuck holding the bag. It can all be included in your case!
Maybe the terms of that fancy car lease or car loan is starting to feel like a noose around your neck? Chapter 7 can give you an efficient way to cut the cord, cut your losses and surrender the vehicle to get into something more economical. Chapter 7 can offer you an escape valve from most civil lawsuits. On the very day your bankruptcy case is filed, the bankruptcy court issues an “Order for Relief” that will stop your creditors in their tracks! Lawsuits must stop, phone calls must stop and threatening letters must stop, unless your creditors obtain special permission from your bankruptcy judge – a permission not granted lightly, usually only in compelling circumstances.
Incredible! Now you can even modify your mortgage under Chapter 7 by participating in the court’s Mortgage Modification Mediation (“MMM”) program. This was historically a program only available to Chapter 13 debtors that were reorganizing their debts in a five-year plan of repayment. Imagine being able to wipe the slate clean on unsecured debt and at the same time obtaining a reasonable mortgage modification in as little as three month’s time!
Whatever failures or frustrations you may have experienced trying to modify your mortgage loan on your own, it’s a very different dynamic when you are doing it under the watchful eye of the court. There is a third-party mediator that is appointed to assist in reaching an amicable modification, and there is no such thing as the lender “losing my paperwork” or claiming “documents were not received” because all communication and all documentation are logged and docketed through a secure portal of the court set up for this purpose.
The MMM program has been a huge success since its implementation in the Southern District of Florida and you may be able to take advantage of it!
So what’s the “catch” with Chapter 7? Sound too good to be true? For most people, there isn’t any catch. However, you’ll want to keep in mind that Chapter 7 in legal terms is considered a process of “liquidation.” This means when your case is filed, a bankruptcy estate is generally created out of all of your property, real and personal. A trustee is appointed to analyze your assets to determine whether they are protected from the claims of your creditors by specific laws known as “exemptions.” If your assets are all protected or have only a small amount of market value or equity such that it would not be cost-effective to sell your assets, your assets will pass through the bankruptcy case unaffected. Meaning you’ll get to keep your assets. See Asset Protection under our FAQs for more information on exemptions.
Your Chapter 7 bankruptcy trustee is only concerned with liquidating assets (if possible or practicable) to raise money to repay all or some portion of your unsecured debt (including priority debts such as certain IRS obligations and domestic support obligations). The trustee does not liquidate assets to repay fully secured creditors since those creditors have their remedy against you should you fail to keep up with your payments (typically, foreclosure in the case of a real estate mortgage; repossession in the case of a defaulted car lease or loan). In some instances of Chapter 7, there may be some unprotected assets that could be worth the time and expense of administration.
Usually, before a bankruptcy trustee actually liquidates any assets, the trustee will offer you a “right of first refusal” or a chance to make a deal, perhaps at a modest discount to offset the costs a liquidation would ordinarily incur. Most things in life are negotiable. A competent lawyer should negotiate on your behalf if it is an asset you are interested in keeping. Trustees are paid a modest flat fee for “no asset” (no liquidation) cases, but earn a healthy commission on a sliding scale, if a protected asset can be sold for a reasonable amount. Although this is much more of an art than a science and your mileage may differ, most trustees feel they need to net at least $3,000 to warrant the time and expense of administration.
Statistically, most Chapter 7 cases cycle through to completion as “no asset” cases, meaning there is no actual liquidation. Knowledge here is a very powerful thing. Your lawyer must be fully knowledgeable of all exemptions you can take advantage of to protect your assets, so your case will be a “no asset” case, or something close to it, if possible. Remember, “no asset” does not mean you do not own any assets. It just means your assets are either protected by law from creditors (and the bankruptcy trustee) or there is no market value for your property, even though from a sentimental perspective, it may be invaluable to you.
Our law firm has represented a wide variety of clients that ironically, have had “six-figure” and “seven-figure” dollars of equity in certain assets (i.e., think homestead exemption and retirement plan exemptions) but because the assets were fully protected under the law, those cases were still closed out as “no asset” cases, meaning creditors got nothing from the cases. The dynamics of this as it plays out can be mind-boggling. But at the end of the day, the law is the law. You will be wise to remember that.
There are no debt limits (“ceilings”) on how much debt you can package into a Chapter 7 case. In theory, there are no minimums either. For an elderly person living on just a fixed income of Social Security, $10,000 in toxic unsecured credit card debt can feel like $100,000 to a working-class mom-and-pop. On the other end of the scale, sometimes big businesses fail, and when they do, they often pull the individual principals down with them, due to personal guarantees and assorted litigation. We have filed cases that have successfully discharged millions of dollars of debt. Obviously, it is all relative depending on circumstances.
Chapter 13 is an individual plan to reorganize or restructure debt. Typically, these plans will last for five years, although sometimes they can be as little as three years, under certain circumstances. Think of Chapter 13 as a plan for repayment of your debts. Sometimes Chapter 13 plans are repaying just pennies on the dollar of what you owe, all the way up to “100% plans.” They are income-and-expense-driven plans – and no two plans are ever really identical for this reason: most people have unique income stream amounts and unique expense amounts each month.
Your attorney will analyze your current monthly income and expenses, and take advantage of certain IRS standardized deductions to offset some of your income to derive your current monthly income (“CMI”) and disposable monthly income “DMI” used to fund your ongoing Chapter 13 plan payments.
You may be asking yourself, “why would I want to file under Chapter 13 and repay debts for five years instead of filing under Chapter 7 potentially ridding myself of debts and obtaining a clean slate in as little as three months?” It’s an excellent question! Consumers that file under Chapter 13 tend to fall into certain categories.
Sometimes consumers are simply not eligible to file under Chapter 7 because they previously filed (and received a discharge) within 8 years of what would be the now current filing under Chapter 7. The 8-year window runs from the filing dates, not the dates of discharge. A consumer will also be ineligible to file under Chapter 7 if (s)he previously received a discharge in a Chapter 13 case filed within six years of the targeted new Chapter 7 case. The exceptions to this are unless (s)he paid 100% of all allowed unsecured claims in the earlier Chapter 13 case or can show the (s)he made payments totaling at least 70 percent of the allowed unsecured claims and that the Chapter 13 plan was proposed in good faith.
Other times, consumers may choose to file under Chapter 13 because they need debt relief, but if they were to file under Chapter 7, they would forfeit valuable and desirable unprotected property to the Chapter 7 bankruptcy trustee. Remember in Chapter 7, creditors get paid (if at all) only if there is a liquidation (sale of assets). In Chapter 13, creditors get paid from a portion of your regular ongoing monthly income collected by the bankruptcy trustee.
It bears mention that the Chapter 13 trustee does not perform this act gratuitously. The Chapter 13 trustee in the Southern District of Florida levies a 10% premium (fee) on every dollar that is paid into the plan. Plan calculations must take this fee into account when determining how much money a creditor will actually receive.
In Chapter 13, creditors are invited to file their “proof of claim” and are given a deadline by which to do so. If the claim is bogus, you or the Chapter 13 trustee are free to object to the claim. If the creditor does not file a proof of claim by the deadline, then the claim is barred and if it is otherwise dischargeable debt, will be discharged upon the completion of your Chapter 13 case.
“If you snooze you lose!” Our firm has had many fortunate clients that were lucky enough that some creditors did not file their proof of claims, and those particular debts wound up being fully discharged as if the cases were filed as Chapter 7 cases!
Remember, Chapter 7 can be awesome at getting rid of unsecured debt in a very short period of time, but with the exception of the recently introduced MMM program into Chapter 7 cases (discussed above), Chapter 7 cannot be used to cure defaults in other kinds of debts, if that matters to you.
Perhaps you fell behind on your car payments and cannot risk the vehicle being repossessed because you use it for work? Well, you could file under Chapter 13 and spread the arrears out over a maximum of five years. You could also do some nifty things with the interest rate to lower it, depending on the age and value of the vehicle.
Chapter 13 still has a few other valuable tools in its war chest that are unavailable in a Chapter 7 case. Real estate values tend to be cyclical. If you happen to be caught up in a downswing, you can often make lemonade out of lemons in Chapter 13. If you are upside down on your primary residence and suffering from not one, but multiple mortgages or home equity loans against the property, you could file what’s known as a “motion to value” to strip off any fully unsecured secondary (thirdly or fourthly as well!) liens on your primary residence. This “dance” is called “mortgage stripping” and it’s every bit as exciting as its name implies. It is a ruthless “all or nothing” battle.
If the secondary lenders can show even a dollar of equity left in your home (net after the first mortgage can be theoretically fully satisfied) then you will not be able to strip of its mortgage. You probably won’t run this play if it’s looking like a close call, because you can rest assured it will come down to a battle of opposing “expert appraisers.” You’re really looking for an easy kill here. You know you owe $500,000 on your first mortgage, every sourcebook and realtor in town is telling you that your sacred homestead is only worth $350,000 and you owe a second mortgage $100,000. That’s an easy kill.
Obviously the closer the fair market value is to the amount you owe on your first mortgage, the more speculative your success becomes in trying to mortgage strip. Remember, first mortgages (primary mortgages) are bulletproof here. You cannot strip off a first mortgage on your primary residence.
If you’ve got investment property (not your primary residence), you’re odds just got a whole lot better. Your Chapter 13 toolbox has a special device known as a “mortgage cramdown” and it works just like it sounds. You can cram down any of the mortgages and liens (even IRS liens) on the property to the fair market value of the property, by filing a similar “motion to value.” This will often wipe out secondary and thirdly liens and may even give your primary mortgage a much-needed haircut and shave.
If you succeeded in either stripping or cramming down those mortgages, don’t pop the bubbly just yet. You must successfully complete your Chapter 13 bankruptcy case (obtain a discharge order) before the orders on the motions to value become permanent. Once they do, obtain a certified copy of the order(s) granting the motion to value, along with a copy of your Chapter 13 discharge order, and mosey on over to the county clerk’s office where they maintain real property public records, and submit the certified copies for recording against the properties, putting the world on notice that those liens have been avoided (released).
Take heed: unlike Chapter 7, Chapter 13 has debt limits. The law is fluid in this regard. Fortunately, as recently as June 21, 2022, President Joe Biden signed the Bankruptcy Threshold Adjustment and Technical Corrections Act (“Corrections Act”) into law which temporarily increased the debt limit for Chapter 13 debtors to an aggregate of $2,750,000. Prior to the Corrections Act, the law drew limitations based on secured and unsecured debt. Thankfully, it has now been simplified, albeit on a temporary basis. The law is currently set to sunset out of existence in June 2024, unless otherwise extended. Most average Chapter 13 filers will be able to work within the new debt limit of Chapter 13. In extraordinary cases, individuals that exceed the debt limits of Chapter 13 can file individual Chapter 11 plans of reorganization, a chapter most commonly associated with moderately large to big business organizations.
What’s right for you? Chapter 7 or Chapter 13? Pick the right tool for the right job. Experienced bankruptcy counsel can guide you in choosing the Chapter that will best serve your financial interests, and bring this chapter of your life to a pleasant close.