A chapter 13 bankruptcy is also called a wage earner's plan, since it enables individuals with regular income to develop a plan to repay all or part of their debts. Under Chapter 7 bankruptcy, in contrast, all of a debtor's assets (except for specific exemptions) are liquidated to repay creditors. Under chapter 13, debtors propose a repayment plan to make installments to creditors over three to five years.
If the debtor's current monthly income is less than the applicable state median, the plan will be for three years unless the court approves a longer period "for cause." If the debtor's current monthly income is greater than the applicable state median, the plan generally must be for five years. In no case may a plan provide for payments over a period longer than five years. During this time the law forbids creditors from starting or continuing collection efforts.
Benefits of Chapter 13 vs. Chapter 7
Chapter 13 offers individuals a number of advantages over liquidation under chapter 7.
Perhaps most significantly, chapter 13 offers individuals an opportunity to save their homes from foreclosure. By filing under this chapter, individuals can stop foreclosure proceedings and may cure delinquent mortgage payments over time. Nevertheless, they must still make all mortgage payments that come due during the chapter 13 plan on time. Chapter 13 allows individuals to make up for missed payments on mortgages and car loans. Chapter 7 is less forgiving and doesn’t allow for individuals to make up for missed payments.
As briefly mentioned above, Chapter 13 allows the individual to make a monthly payment to a bankruptcy trustee based on his or her monthly budget. Basically, the individual will be allowed to pay what they can afford. The budget is usually composed of the individual’s Internal Revenue Services (IRS) standards, actual monthly expenses, and rules set by the Chapter 13 trustee.
Chapter 13 also has advantage over Chapter 7 regarding individual’s credit report. A Chapter 13 bankruptcy is shown on an credit report for 7 years while Chapter 7 is shown for 10 years. This means that creditors will know you filed for bankruptcy 3 years longer if the individual filed a Chapter 7. The impact on a individual’s credit is much less if Chapter 13 is filed. This is extremely important since creditors/lenders use credit reports for common expenses such as vehicle financing, renting for housing, and credit cards.
Another advantage of chapter 13 is that it allows individuals to reschedule secured debts (other than a mortgage for their primary residence) and extend them over the life of the chapter 13 plan. Doing this may lower the payments.
Chapter 13 also has a special provision that protects third parties who are liable with the debtor on "consumer debts." This provision may protect co-signers. Finally, chapter 13 acts like a consolidation loan under which the individual makes the plan payments to a chapter 13 trustee who then distributes payments to creditors. Individuals will have no direct contact with creditors while under chapter 13 protection.
Contact a qualified bankruptcy attorney to find out your options for navigating the best path forward.