Chapter 7 and Options to Bankruptcy
Debtors should be aware that there are several alternatives to bankruptcy, particularly if they are contemplating filing for Chapter 7 bankruptcy. In a chapter 7 filing, most assets are liquidated to help pay down debts. Therefore, it sometimes makes sense to exhaust all other bankruptcy alternatives (explained below) before going down that route. See Bankruptcy Exemptions: Chapter 7 and Pros and Cons of Declaring Bankruptcy Under Chapter 7 for additional information.
Chapter 11 Bankruptcy: for Businesses Reorganiztions
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 does not avoid bankruptcy but may seek an adjustment of debts. Such an adjustment would involve either reducing the debt or extending the time for repayment, if not a more comprehensive reorganization. Sole proprietorships may also be eligible for relief under chapter 13 of the Bankruptcy Code.
Chapter 13 Bankruptcy: Planned Repayment of Debts
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.
If the debtor's "current monthly income" 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) $10,000, or (ii) 25% of the debtor's nonpriority unsecured debt, as long as that amount is at least $6,000. 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.
Alternatives to Bankruptcy
There are other ways to deal with creditors short of filing for bankruptcy. Debtors should also be aware that out-of-court agreements with creditors or debt counseling services might provide an alternative to a bankruptcy filing. Creditors may want to avoid a debtor going into bankruptcy, calculating that a bankruptcy filing will reduce the amount of the debt that will be repaid to them. Some creditors may agree to modify the terms of debt accordingly.
There are other steps you can take before contemplating bankruptcy. For starters, your creditors do not have a blank check to undertake abusive and harassing debt collection tactics. Federal and state laws prohibit collection practices that cross the line. Taking advantage of this can ease pressure and restore some peace of mind.
It is not always possible to avoid bankruptcy, but it makes sense to exhaust all options to bankruptcy before filing for Chapter 7, Chapter 13, or Chapter 11. Talk to a bankruptcy attorney if you have additional questions.