Chapter 7
There
has been much doom and gloom written about the new bankruptcy laws and
how much more difficult it's going to be to file Chapter 7 bankruptcy.
It is true that there are more hoops to jump through under the new
bankruptcy laws and it's true that some people are going to have to
file Chapter 13 bankruptcy instead of Chapter 7 bankruptcy. However,
for the vast majority of filers, Chapter 7 is still available with very
little extra effort!
Alternatives to Chapter 7
Debtors
should be aware that there are several alternatives to chapter 7
relief. For example, debtors who are engaged in business, including
corporations, partnerships, and sole proprietorships, may prefer to
remain in business and avoid liquidation. Such debtors should consider
filing a petition under chapter 11 of the Bankruptcy Code. Under
chapter 11, the debtor may seek an adjustment of debts, either by
reducing the debt or by extending the time for repayment, or may seek a
more comprehensive reorganization. Sole proprietorships may also be
eligible for relief under chapter 13 of the Bankruptcy Code.
In
addition, individual debtors who have regular income may seek an
adjustment of debts under chapter 13 of the Bankruptcy Code. A
particular advantage of chapter 13 is that it provides individual
debtors with an opportunity to save their homes from foreclosure by
allowing them to "catch up" past due payments through a payment plan.
Moreover, the court may dismiss a chapter 7 case filed by an individual
whose debts are primarily consumer rather than business debts if the
court finds that the granting of relief would be an abuse of chapter 7.
11 U.S.C. § 707(b).
If the debtor's "current monthly income"(1)
is more than the state median, the Bankruptcy Code requires application
of a "means test" to determine whether the chapter 7 filing is
presumptively abusive. Abuse is presumed if the debtor's aggregate
current monthly income over 5 years, net of certain statutorily allowed
expenses, is more than (i) $10,950, or (ii) 25% of the debtor's
nonpriority unsecured debt, as long as that amount is at least $6,575. (2)
The debtor may rebut a presumption of abuse only by a showing of
special circumstances that justify additional expenses or adjustments
of current monthly income. Unless the debtor overcomes the presumption
of abuse, the case will generally be converted to chapter 13 (with the
debtor's consent) or will be dismissed. 11 U.S.C. § 707(b)(1). Debtors
should also be aware that out-of-court agreements with creditors or
debt counseling services may provide an alternative to a bankruptcy
filing.
Background
A
chapter 7 bankruptcy case does not involve the filing of a plan of
repayment as in chapter 13. Instead, the bankruptcy trustee gathers and
sells the debtor's nonexempt assets and uses the proceeds of such
assets to pay holders of claims (creditors) in accordance with the
provisions of the Bankruptcy Code. Part of the debtor's property may be
subject to liens and mortgages that pledge the property to other
creditors. In addition, the Bankruptcy Code will allow the debtor to
keep certain "exempt" property; but a trustee will liquidate the
debtor's remaining assets. Accordingly, potential debtors should
realize that the filing of a petition under chapter 7 may result in the
loss of property.
Chapter 7 Eligibility
To
qualify for relief under chapter 7 of the Bankruptcy Code, the debtor
may be an individual, a partnership, or a corporation or other business
entity. 11 U.S.C. §§ 101(41), 109(b). Subject to the means test
described above for individual debtors, relief is available under
chapter 7 irrespective of the amount of the debtor's debts or whether
the debtor is solvent or insolvent. An individual cannot file under
chapter 7 or any other chapter, however, if during the preceding 180
days a prior bankruptcy petition was dismissed due to the debtor's
willful failure to appear before the court or comply with orders of the
court, or the debtor voluntarily dismissed the previous case after
creditors sought relief from the bankruptcy court to recover property
upon which they hold liens. 11 U.S.C. §§ 109(g), 362(d) and (e). In
addition, no individual may be a debtor under chapter 7 or any chapter
of the Bankruptcy Code unless he or she has, within 180 days before
filing, received credit counseling from an approved credit counseling
agency either in an individual or group briefing. 11 U.S.C. §§ 109,
111. There are exceptions in emergency situations or where the U.S.
trustee (or bankruptcy administrator) has determined that there are
insufficient approved agencies to provide the required counseling. If a
debt management plan is developed during required credit counseling, it
must be filed with the court.
One
of the primary purposes of bankruptcy is to discharge certain debts to
give an honest individual debtor a "fresh start." The debtor has no
liability for discharged debts. In a chapter 7 case, however, a
discharge is only available to individual debtors, not to partnerships
or corporations. 11 U.S.C. § 727(a)(1). Although an individual chapter
7 case usually results in a discharge of debts, the right to a
discharge is not absolute, and some types of debts are not discharged.
Moreover, a bankruptcy discharge does not extinguish a lien on property.
How Chapter 7 Works
A
chapter 7 case begins with the debtor filing a petition with the
bankruptcy court serving the area where the individual lives or where
the business debtor is organized or has its principal place of business
or principal assets. (3)
In addition to the petition, the debtor must also file with the court:
(1) schedules of assets and liabilities; (2) a schedule of current
income and expenditures; (3) a statement of financial affairs; and (4)
a schedule of executory contracts and unexpired leases. Fed. R. Bankr.
P. 1007(b). Debtors must also provide the assigned case trustee with a
copy of the tax return or transcripts for the most recent tax year as
well as tax returns filed during the case (including tax returns for
prior years that had not been filed when the case began). 11 U.S.C. §
521. Individual debtors with primarily consumer debts have additional
document filing requirements. They must file: a certificate of credit
counseling and a copy of any debt repayment plan developed through
credit counseling; evidence of payment from employers, if any, received
60 days before filing; a statement of monthly net income and any
anticipated increase in income or expenses after filing; and a record
of any interest the debtor has in federal or state qualified education
or tuition accounts. Id. A husband and wife may file a joint
petition or individual petitions. 11 U.S.C. § 302(a). Even if filing
jointly, a husband and wife are subject to all the document filing
requirements of individual debtors. (The Official Forms may be
purchased at legal stationery stores or downloaded from the internet at
www.uscourts.gov/bkforms/index.html. They are not available from the court.)
The
courts must charge a $245 case filing fee, a $39 miscellaneous
administrative fee, and a $15 trustee surcharge. Normally, the fees
must be paid to the clerk of the court upon filing. With the court's
permission, however, individual debtors may pay in installments. 28
U.S.C. § 1930(a); Fed. R. Bankr. P. 1006(b); Bankruptcy Court
Miscellaneous Fee Schedule, Item 8. The number of installments is
limited to four, and the debtor must make the final installment no
later than 120 days after filing the petition. Fed. R. Bankr. P. 1006.
For cause shown, the court may extend the time of any installment,
provided that the last installment is paid not later than 180 days
after filing the petition. Id. The debtor may also pay the
$39 administrative fee and the $15 trustee surcharge in installments.
If a joint petition is filed, only one filing fee, one administrative
fee, and one trustee surcharge are charged. Debtors should be aware
that failure to pay these fees may result in dismissal of the case. 11
U.S.C. § 707(a).
If the
debtor's income is less than 150% of the poverty level (as defined in
the Bankruptcy Code), and the debtor is unable to pay the chapter 7
fees even in installments, the court may waive the requirement that the
fees be paid. 28 U.S.C. § 1930(f).
In
order to complete the Official Bankruptcy Forms that make up the
petition, statement of financial affairs, and schedules, the debtor
must provide the following information:
Married
individuals must gather this information for their spouse regardless of
whether they are filing a joint petition, separate individual
petitions, or even if only one spouse is filing. In a situation where
only one spouse files, the income and expenses of the non-filing spouse
is required so that the court, the trustee and creditors can evaluate
the household's financial position.
Among
the schedules that an individual debtor will file is a schedule of
"exempt" property. The Bankruptcy Code allows an individual debtor (4)
to protect some property from the claims of creditors because it is
exempt under federal bankruptcy law or under the laws of the debtor's
home state. 11 U.S.C. § 522(b). Many states have taken advantage of a
provision in the Bankruptcy Code that permits each state to adopt its
own exemption law in place of the federal exemptions. In other
jurisdictions, the individual debtor has the option of choosing between
a federal package of exemptions or the exemptions available under state
law. Thus, whether certain property is exempt and may be kept by the
debtor is often a question of state law. The debtor should consult an
attorney to determine the exemptions available in the state where the
debtor lives.
Filing a
petition under chapter 7 "automatically stays" (stops) most collection
actions against the debtor or the debtor's property. 11 U.S.C. § 362.
But filing the petition does not stay certain types of actions listed
under 11 U.S.C. § 362(b), and the stay may be effective only for a
short time in some situations. The stay arises by operation of law and
requires no judicial action. As long as the stay is in effect,
creditors generally may not initiate or continue lawsuits, wage
garnishments, or even telephone calls demanding payments. The
bankruptcy clerk gives notice of the bankruptcy case to all creditors
whose names and addresses are provided by the debtor.
Between
20 and 40 days after the petition is filed, the case trustee (described
below) will hold a meeting of creditors. If the U.S. trustee or
bankruptcy administrator (5)
schedules the meeting at a place that does not have regular U.S.
trustee or bankruptcy administrator staffing, the meeting may be held
no more than 60 days after the order for relief. Fed. R. Bankr. P.
2003(a). During this meeting, the trustee puts the debtor under oath,
and both the trustee and creditors may ask questions. The debtor must
attend the meeting and answer questions regarding the debtor's
financial affairs and property. 11 U.S.C. § 343. If a husband and wife
have filed a joint petition, they both must attend the creditors'
meeting and answer questions. Within 10 days of the creditors' meeting,
the U.S. trustee will report to the court whether the case should be
presumed to be an abuse under the means test described in 11 U.S.C. §
704(b).
It is important for
the debtor to cooperate with the trustee and to provide any financial
records or documents that the trustee requests. The Bankruptcy Code
requires the trustee to ask the debtor questions at the meeting of
creditors to ensure that the debtor is aware of the potential
consequences of seeking a discharge in bankruptcy such as the effect on
credit history, the ability to file a petition under a different
chapter, the effect of receiving a discharge, and the effect of
reaffirming a debt. Some trustees provide written information on these
topics at or before the meeting to ensure that the debtor is aware of
this information. In order to preserve their independent judgment,
bankruptcy judges are prohibited from attending the meeting of
creditors. 11 U.S.C. § 341(c).
In
order to accord the debtor complete relief, the Bankruptcy Code allows
the debtor to convert a chapter 7 case to case under chapter 11, 12 or
13 (6)
as long as the debtor is eligible to be a debtor under the new chapter.
However, a condition of the debtor's voluntary conversion is that the
case has not previously been converted to chapter 7 from another
chapter. 11 U.S.C. § 706(a). Thus, the debtor will not be permitted to
convert the case repeatedly from one chapter to another.
Role of the Case Trustee
When
a chapter 7 petition is filed, the U.S. trustee (or the bankruptcy
court in Alabama and North Carolina) appoints an impartial case trustee
to administer the case and liquidate the debtor's nonexempt assets. 11
U.S.C. §§ 701, 704. If all the debtor's assets are exempt or subject to
valid liens, the trustee will normally file a "no asset" report with
the court, and there will be no distribution to unsecured creditors.
Most chapter 7 cases involving individual debtors are no asset cases.
But if the case appears to be an "asset" case at the outset, unsecured
creditors (7)
must file their claims with the court within 90 days after the first
date set for the meeting of creditors. Fed. R. Bankr. P. 3002(c). A
governmental unit, however, has 180 days from the date the case is
filed to file a claim. 11 U.S.C. § 502(b)(9). In the typical no asset
chapter 7 case, there is no need for creditors to file proofs of claim
because there will be no distribution. If the trustee later recovers
assets for distribution to unsecured creditors, the Bankruptcy Court
will provide notice to creditors and will allow additional time to file
proofs of claim. Although a secured creditor does not need to file a
proof of claim in a chapter 7 case to preserve its security interest or
lien, there may be other reasons to file a claim. A creditor in a
chapter 7 case who has a lien on the debtor's property should consult
an attorney for advice.
Commencement
of a bankruptcy case creates an "estate." The estate technically
becomes the temporary legal owner of all the debtor's property. It
consists of all legal or equitable interests of the debtor in property
as of the commencement of the case, including property owned or held by
another person if the debtor has an interest in the property. Generally
speaking, the debtor's creditors are paid from nonexempt property of
the estate.
The primary
role of a chapter 7 trustee in an asset case is to liquidate the
debtor's nonexempt assets in a manner that maximizes the return to the
debtor's unsecured creditors. The trustee accomplishes this by selling
the debtor's property if it is free and clear of liens (as long as the
property is not exempt) or if it is worth more than any security
interest or lien attached to the property and any exemption that the
debtor holds in the property. The trustee may also attempt to recover
money or property under the trustee's "avoiding powers." The trustee's
avoiding powers include the power to: set aside preferential transfers
made to creditors within 90 days before the petition; undo security
interests and other prepetition transfers of property that were not
properly perfected under nonbankruptcy law at the time of the petition;
and pursue nonbankruptcy claims such as fraudulent conveyance and bulk
transfer remedies available under state law. In addition, if the debtor
is a business, the bankruptcy court may authorize the trustee to
operate the business for a limited period of time, if such operation
will benefit creditors and enhance the liquidation of the estate. 11
U.S.C. § 721.
Section 726
of the Bankruptcy Code governs the distribution of the property of the
estate. Under § 726, there are six classes of claims; and each class
must be paid in full before the next lower class is paid anything. The
debtor is only paid if all other classes of claims have been paid in
full. Accordingly, the debtor is not particularly interested in the
trustee's disposition of the estate assets, except with respect to the
payment of those debts which for some reason are not dischargeable in
the bankruptcy case. The individual debtor's primary concerns in a
chapter 7 case are to retain exempt property and to receive a discharge
that covers as many debts as possible.
The Chapter 7 Discharge
A
discharge releases individual debtors from personal liability for most
debts and prevents the creditors owed those debts from taking any
collection actions against the debtor. Because a chapter 7 discharge is
subject to many exceptions, though, debtors should consult competent
legal counsel before filing to discuss the scope of the discharge.
Generally, excluding cases that are dismissed or converted, individual
debtors receive a discharge in more than 99 percent of chapter 7 cases.
In most cases, unless a party in interest files a complaint objecting
to the discharge or a motion to extend the time to object, the
bankruptcy court will issue a discharge order relatively early in the
case – generally, 60 to 90 days after the date first set for the
meeting of creditors. Fed. R. Bankr. P. 4004(c).
The
grounds for denying an individual debtor a discharge in a chapter 7
case are narrow and are construed against the moving party. Among other
reasons, the court may deny the debtor a discharge if it finds that the
debtor: failed to keep or produce adequate books or financial records;
failed to explain satisfactorily any loss of assets; committed a
bankruptcy crime such as perjury; failed to obey a lawful order of the
bankruptcy court; fraudulently transferred, concealed, or destroyed
property that would have become property of the estate; or failed to
complete an approved instructional course concerning financial
management. 11 U.S.C. § 727; Fed. R. Bankr. P. 4005.
Secured
creditors may retain some rights to seize property securing an
underlying debt even after a discharge is granted. Depending on
individual circumstances, if a debtor wishes to keep certain secured
property (such as an automobile), he or she may decide to "reaffirm"
the debt. A reaffirmation is an agreement between the debtor and the
creditor that the debtor will remain liable and will pay all or a
portion of the money owed, even though the debt would otherwise be
discharged in the bankruptcy. In return, the creditor promises that it
will not repossess or take back the automobile or other property so
long as the debtor continues to pay the debt.
If
the debtor decides to reaffirm a debt, he or she must do so before the
discharge is entered. The debtor must sign a written reaffirmation
agreement and file it with the court. 11 U.S.C. § 524(c). The
Bankruptcy Code requires that reaffirmation agreements contain an
extensive set of disclosures described in 11 U.S.C. § 524(k). Among
other things, the disclosures must advise the debtor of the amount of
the debt being reaffirmed and how it is calculated and that
reaffirmation means that the debtor's personal liability for that debt
will not be discharged in the bankruptcy. The disclosures also require
the debtor to sign and file a statement of his or her current income
and expenses which shows that the balance of income paying expenses is
sufficient to pay the reaffirmed debt. If the balance is not enough to
pay the debt to be reaffirmed, there is a presumption of undue
hardship, and the court may decide not to approve the reaffirmation
agreement. Unless the debtor is represented by an attorney, the
bankruptcy judge must approve the reaffirmation agreement.
If
the debtor was represented by an attorney in connection with the
reaffirmation agreement, the attorney must certify in writing that he
or she advised the debtor of the legal effect and consequences of the
agreement, including a default under the agreement. The attorney must
also certify that the debtor was fully informed and voluntarily made
the agreement and that reaffirmation of the debt will not create an
undue hardship for the debtor or the debtor's dependants. 11 U.S.C. §
524(k). The Bankruptcy Code requires a reaffirmation hearing if the
debtor has not been represented by an attorney during the negotiating
of the agreement, or if the court disapproves the reaffirmation
agreement.11 U.S.C. § 524(d) and (m). The debtor may repay any debt
voluntarily, however, whether or not a reaffirmation agreement exists.
11 U.S.C. § 524(f).
An
individual receives a discharge for most of his or her debts in a
chapter 7 bankruptcy case. A creditor may no longer initiate or
continue any legal or other action against the debtor to collect a
discharged debt. But not all of an individual's debts are discharged in
chapter 7. Debts not discharged include debts for alimony and child
support, certain taxes, debts for certain educational benefit
overpayments or loans made or guaranteed by a governmental unit, debts
for willful and malicious injury by the debtor to another entity or to
the property of another entity, debts for death or personal injury
caused by the debtor's operation of a motor vehicle while the debtor
was intoxicated from alcohol or other substances, and debts for certain
criminal restitution orders.11 U.S.C. § 523(a). The debtor will
continue to be liable for these types of debts to the extent that they
are not paid in the chapter 7 case. Debts for money or property
obtained by false pretenses, debts for fraud or defalcation while
acting in a fiduciary capacity, and debts for willful and malicious
injury by the debtor to another entity or to the property of another
entity will be discharged unless a creditor timely files and prevails
in an action to have such debts declared nondischargeable. 11 U.S.C. §
523(c); Fed. R. Bankr. P. 4007(c).
The
court may revoke a chapter 7 discharge on the request of the trustee, a
creditor, or the U.S. trustee if the discharge was obtained through
fraud by the debtor, if the debtor acquired property that is property
of the estate and knowingly and fraudulently failed to report the
acquisition of such property or to surrender the property to the
trustee, or if the debtor (without a satisfactory explanation) makes a
material misstatement or fails to provide documents or other
information in connection with an audit of the debtor's case. 11 U.S.C.
§ 727(d).
