Bankruptcy Basics: Chapter 7, Chapter 13, and Limits
Liquidation against reorganisation, the means test as the gate between them, and the debts that generally survive either. Exemptions are state law.
Bankruptcy is a federal legal process with real consequences in both directions, and the decision belongs with a lawyer who can look at the specific facts. What a reference page can usefully do is explain the structure, so that the conversation with that lawyer starts from an informed position.
Nothing here is legal advice or a recommendation to file.
The Two Common Chapters
| Chapter 7 | Chapter 13 | |
|---|---|---|
| Nature | Liquidation | Reorganisation |
| Duration | Typically months | A plan running several years |
| Property | Non-exempt property may be sold | Retained, subject to the plan |
| Income | Subject to the means test | Requires regular income |
| Arrears on a secured debt | Not cured; the asset may be lost | Can be cured through the plan |
| Discharge | On completion, relatively quickly | At the end of the plan |
Chapter 7 discharges eligible debts after a trustee has administered any non-exempt property. Most consumer cases have little or no non-exempt property, so nothing is sold, but that outcome depends entirely on the exemptions available.
Chapter 13 keeps property and substitutes a court-approved plan, funded from income, running for a period fixed by statute. It suits someone with arrears they want to cure and income to fund a plan.
The Means Test
Eligibility for Chapter 7 runs through the means test.
The first stage compares household income against the median for the same household size in the same state. Below the median, the test is generally satisfied.
Above it, a more detailed calculation applies specified allowances against income to determine disposable income. If that disposable income is sufficient to fund a meaningful repayment, Chapter 7 is presumed abusive and the case belongs in Chapter 13.
The figures are published and updated periodically, and the allowances are defined rather than actual in several categories, which is why the result frequently surprises people in both directions.
Exemptions
Exemptions determine what property is protected, and they are the most state-dependent part of the whole process.
They are defined by category, with a value limit on each: equity in a home, a vehicle, tools of a trade, household goods, retirement accounts, and others. Some states allow a choice between the state list and a federal one; others require the state list.
The variation between states is substantial. The same facts can produce very different outcomes depending on where the case is filed, and residency requirements govern which state’s exemptions apply, which matters after a recent move.
This is why a general description cannot tell anyone what they will keep.
Debts That Generally Survive
Bankruptcy does not discharge everything, and the categories that survive are not obvious.
Recent tax obligations generally survive, though older ones may be dischargeable if conditions are met. Domestic support obligations are not discharged. Most student loans survive absent a separate showing of undue hardship, which is a demanding standard. Debts arising from fraud, from certain injuries caused by the debtor, and from some court orders also generally survive.
Secured debts occupy their own position: the personal obligation may be discharged while the lien on the property remains, so keeping the asset means continuing to pay for it.
What It Costs
There are filing fees, and there is legal representation, which in a consumer case is a meaningful expense and is where most of the cost sits. Fee waivers and reduced-fee arrangements exist in some circumstances.
Credit counselling from an approved provider is required before filing, and a financial management course is required before discharge. Both are administrative steps rather than obstacles.
A bankruptcy appears on credit reports for a period set by the Fair Credit Reporting Act, and the length differs between the chapters. See how long items stay on a credit report.
What People Get Wrong About This
The first mistake is assuming everything is discharged. Taxes, support and student loans are the categories that most often survive and most often surprise.
The second is assuming everything is lost. Exemptions protect a great deal in most consumer cases, and many Chapter 7 cases involve no property being sold at all.
A third is moving assets or paying one creditor ahead of others shortly before filing. Transfers and preferential payments within statutory lookback periods can be undone by the trustee, and concealment carries serious consequences.
A fourth is filing to stop a foreclosure without understanding that Chapter 7 does not cure arrears. Chapter 13 is the chapter built for that.
And the last is waiting too long. Retirement accounts are frequently protected by exemptions, so draining one to pay debts that would have been discharged is a cost that cannot be recovered.
Before Talking to a Lawyer
Assemble a list of every debt with balances and creditors, recent income, a list of assets with rough values and any loans secured against them, and any lawsuits or garnishments in progress.
That list makes the first consultation productive, and many consumer bankruptcy lawyers offer an initial consultation without charge.
Where the situation is short of bankruptcy, the alternatives worth understanding first are covered in debt consolidation explained, statute of limitations on debt, and wage garnishment limits. The CFPB publishes consumer material on bankruptcy alternatives, and approved credit counselling agencies are listed by the Department of Justice.
Common questions
What is the difference between Chapter 7 and Chapter 13?
Chapter 7 is liquidation: non-exempt property may be sold by a trustee and eligible debts are discharged, usually within months. Chapter 13 is reorganisation: the debtor keeps property and follows a court-approved repayment plan over a period of years, with a discharge at the end of the plan.
What is the means test?
A calculation comparing income against the median for a household of the same size in the same state, followed by a more detailed analysis of disposable income where the first part is not conclusive. It determines whether Chapter 7 is available or whether the case belongs in Chapter 13.
Which debts survive bankruptcy?
Categories that generally are not discharged include most taxes of recent years, domestic support obligations, most student loans absent a showing of undue hardship, debts from fraud, and obligations arising from certain injuries. The detail matters and the list is not intuitive, which is one reason this is not a do-it-yourself area.
Will I lose my house or car?
It depends on exemptions, which are state law, and on whether payments are current. Exemptions protect a defined amount of equity in categories of property, and states differ substantially in how generous they are. Chapter 13 is frequently chosen precisely because it allows arrears to be cured while keeping the asset.
Does bankruptcy stop collection immediately?
Filing triggers an automatic stay under the Bankruptcy Code, which halts most collection activity including lawsuits, garnishment and collection calls. There are exceptions, and the stay can be lifted on application, but the immediate effect is that most collection stops on filing.
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