Chapters of Bankruptcy: Chapter 7

A chapter 7 bankruptcy is often referred to as a “straight bankruptcy” or a “liquidation bankruptcy”.  In a chapter 7 bankruptcy someone is usually able to discharge credit card debt, medical bills, old utility bills, etc.  A common myth about Chapter 7 bankruptcy is that a bankruptcy trustee will sell all of your property.  That is not true.  Consumers are able to keep property which is classified as exempt.  It is important to consult a lawyer to ensure that your property is exempt, and your alternatives to dealing with unexempt property. 

A Chapter 7 banruptcy generally lasts 3 – 4 months.  Most people emerge debt-free and retain most or all of their assets.

One important thing to remember about a Chapter 7 bankruptcy is that once it is filed, there is no right to dismiss it.  So if a trustee discovers unexempt property after the case is filed, that property may be sold and the proceeds used to repay some or all of your debt.  This is why it is critical to obtain proper legal representation BEFORE filing  a Chapter 7 case.

How much equity can I keep in my home if I file for bankruptcy?

In order to answer this question, it’s important to first define what “equity” is. Equity is the difference between the value of your property and what is owed on it. For example, if your home is worth $150,000 and you owe $115,000 on it, then you have $35,000 in equity in your home.

In most cases Vermonters may keep $125,000 in equity in their primary residence. It is important to note that this amount is NOT doubled if the home is owned by a husband and a wife. In certain circumstances those who own property as Tenants by the Entirety by be able to protect more equity, however certain requirements must be met. It is critial that you consult an attorney if you intend to rely on the Tenancy by the Entirety exemption to protect your property.

Why Doing Your Own Estate Planning Can Have Disasterous Results

I am always amazed at the people who come into my office in need of bankruptcy help who have been placed on the title to real estate which belongs to a relative, often a parent.  I am told that this was an attemtp to avoid probate, and done without the guidance of an estate planning lawyer.  So instead of having to contend with the inconvenience that probate might bring, mom or dad’s house has now been exposed to all of my client’s creditors.   An aggressive creditor could foreclose on the property in order to collect on the debt of a child who has been placed on the title to the property.

While you wouldn’t perform your own surgery, the same should apply to handling legal affairs.  Doing your own estate planning can result in complications that you may not be able to predict.  There are a whole host of ways in which a parent can ensure that their children can avoid probate, but this requires the guidance of a skilled professional.  The cost of a good estate plan is far cheaper than than the cost to fight to save the family home from creditors.

Credit After Bankruptcy

One of the questions my clients most frequently ask about is obtaining new credit after filing for bankruptcy. My first recommendation is that a solid plan of savings be established before worrying about credit. It’s much better to dip into a savings account to replace the broken refrigerator than to charge it on a credit card.

At some point if you hope to obtain an auto loan or a mortgage at a decent interest rate, you need to begin to rebuild your credit. The first step is generally obtaining a credit card. To the shock and surprise of most of my clients, the credit card applications come very quickly after filing for bankruptcy.

I urge my clients to read the disclosures that come with these applications very carefully. I have seen applications that offer an initial $300.00 credit line, but initial fees associated with obtaining the credit card can run $200.00. So before a single purchase is made two-thirds of the available credit is eaten up in fees. On top of those fees generally come very high interest rates.

There may be an alternative to these high-fee cards. Obtaining a secured credit card can be a better option. With a secured credit card you save up a sum of money (as little as $300.00 in some cases) and then put that money on deposit with the bank or credit union. The amount of money you placed on deposit for that card equals your charging limit on that card. You earn some interest on the money the bank holds, and often the fees and interest rates associated with these cards are far more favorable than with unsecured credit cards.

Even with secured credit cards, it’s important to read the disclosure statement carefully, and shop around for a secured card with the best terms. It’s also important to remember that even though the bank or credit union is holding your money, you must still make timely payments.

Lastly, a critical factor in rebuilding your credit is making sure that your credit report is correct. Sometimes after filing for bankruptcy a creditor may not report the debts as “Discharged in Bankruptcy.” This denies you the benefit of a fresh start and will negatively impact your credit going forward.  I encourage my clients to obtain a copy of their credit reports from all three credit bureaus (Trans Union, Experian and Equifax) about three months after they receive their discharge. Any inaccuracies should be corrected at that point. There is nothing worse than discovering a mistake on your credit report as you are applying for a loan.

The Hidden Consequences of Settling Your Debts

You may have heard news stories about settling your credit card debt for substantially less than you owe. It is true that hungry creditors may agree to settle for as little as 30% of the debt. Those same creditors would file a 1099-C with the Internal Revenue Service for the 70% of the debt that they forgave. For example, if you owe the creditor $10,000 and they agree to settle with you for $3,000, they will file a 1099-C with the IRS for $7,000.  The IRS will expect you to pay income tax on the forgiven debt as if it were income.  This is referred to as Cancellation of Debt Income and can bring a very unpleasant surprise at tax time. 

There are some important exceptions that may mean that you won’t be liable for tax on the forgiven debt.   Before you decide to settle your debts for less than what you owe, you should consult a competent tax professional to understand the tax consequences of any debt settlement.  

So what can you do if you receive a 1099-C?  If you qualify, filing IRS Form 982 with your tax return may reduce or eliminate the tax from the forgiven debt.  You can find Form 982 at www.irs.gov/pub/irs-pdf/f982.pdf.

Can I get fired from my job if I file for bankruptcy?

The answer to this question is “No”. The bankruptcy code makes it illegal for an employer to fire an employee if the employee files for bankruptcy. Many of my clients express this concern when they owe their employer for a loan that they will be discharging in their bankruptcy.

This doesn’t mean that an employer won’t try to find another reason to fire you. So how do you prove that they actually fired you because you filed for bankruptcy? In many instances you may not be able to prove it.  However, keeping a good journal of things that your supervisor may say to you about your performance can be a valuable tool  if you find yourself the victim of bankruptcy discrimination.  Most importantly, do not give your employer ammunition, such as coming into work late or failing to complete assignments.  That may be all they need to decide that it’s time for you to move on, even if you have filed for bankruptcy.