How The Bankruptcy Process Actually Works

Seeking relief from a large amount of outstanding debt may be the only way for some people to get their finances under control. The process of declaring bankruptcy, however, involves a lot of work, as the government does not want to incentivize people to try to discharge their debts. Before you get too far into the process, it's worth your time to learn how the bankruptcy system actually works.

Debts Don't Just Go Away

Regardless of what form of bankruptcy you pursue, some type of effort will be made by the court to ensure that your creditors will be paid as much of the outstanding debts owed to them as possible. There are three common types of bankruptcies filed in the U.S.: Chapter 7, 13, and 11. Chapters 7 and 13 are generally aimed at private individuals, and Chapter 11 is aimed at businesses. A bankruptcy law firm can help you decide which approach might be the right one given your circumstances.

Types of Bankruptcies

Chapter 7 bankruptcy involves liquidating a significant portion of your available assets in order to pay off as much debt as possible. Once the process is concluded, the remainder of those debts are then completely discharged, but the applicant will have to wait several years to file for bankruptcy again, and their credit rating usually takes a major hit. In a Chapter 7 bankruptcy, you'll be left enough resources to handle basic necessities, but anything beyond that will be sold. If a couple owns three vehicles, for example, the most expensive one will be sold and the proceeds given to creditors, but they may be able to keep the other two cars in order to get to work.

The goal of a Chapter 13 bankruptcy is to allow you time to restructure your debts and resume payment. This can be used in many cases to halt a foreclosure and restructure payments. Be aware that the court tends to nitpick Chapter 13 restructuring efforts in order to prevent any free-riding behavior. The average Chapter 13 case takes between three and five years to conclude, and remaining debts are discharged once payments under the plan are completed. Creditors take a haircut, but they tend to get the majority of what they're owed.

Companies are typically the applicants in Chapter 11 cases. The objective is to reorganize operations for survival and pay off creditors, similar to Chapter 13.