Chapter 7 vs. Chapter 13: Which one is right for me?
Chapter 7, sometimes referred to as “straight”, or “liquidation” bankruptcy, is designed for debtors in financial difficulty who do not have the present ability to pay their existing debts. With a Chapter 7 filing, debtors will almost invariably pay back none of their unsecured debts. This is different from a Chapter 13 debtor who, although lacking a current ability to pay off his debts, does have enough (reasonably anticipated) future earning capacity, and under Chapter 13 will be required, to pay back at least part of them.
In a Chapter 13 bankruptcy, also known as a “reorganization bankruptcy”, debtors who have enough disposable income to pay off a portion of their debts, generally at least twenty percent, file with the court a repayment plan. That plan – in essence nothing more than a proposed repayment schedule – may not exceed a period of five years. Typical repayment plan periods are in fact 3, 4, or 5 years.
If under a Chapter 7 plan a debtor is required to pay back none of his debts, while under a Chapter 13 he is required to pay back some of them, the question you might naturally ask is, “Why would anyone ever choose a Chapter 13 instead of a Chapter 7?” Indeed, a Chapter 7 is generally preferable, but that assumes that you qualify. And therein lies the answer to why a prospective bankruptcy filer might opt for a Chapter 13; that is, it’s probably the case that he has to file under Chapter 13 for the simple reason that he doesn’t qualify for a Chapter 7, at least if he wants to keep all of his assets.
Under Chapter 7, there are certain dollar limit on the amount of ‘equity’ (that is, the fair value of the asset reduced by any liens against it) allowed for specific types of assets. If the debtor has more equity than the prescribed exemption amount, the asset in question could be sold by the bankruptcy trustee in order to distribute the proceeds among the listed creditors. To avoid this from happening the debtor should, before he files, make equity calculations for all his assets, and carefully compare those figures with the corresponding exemption limits. If the equity amounts exceed the exemption limits for any assets that the debtor wishes to keep, he would be well advised to file under Chapter 13.
