A fundamental goal of bankruptcy laws is to give debtors a financial “fresh start” from burdensome debts. The Supreme Court made this point about the purpose of the bankruptcy law in its 1934 decision in Local Loan Co. v. Hunt:
[I]t gives to the honest but unfortunate debtor ... a new opportunity in life and a clear field for future effort, unhampered by the pressure and discouragement of preexisting debt.
This goal is accomplished through the bankruptcy “discharge,” which releases debtors from personal liability from specific debts and prohibits creditors from ever taking any action against the debtor to collect those debts.
Bankruptcy Proceedings
Bankruptcy cases are heard in bankruptcy courts, and there is a bankruptcy court for each judicial district in the country. Each state has one or more districts. In Arizona there is one district, with
bankruptcy court locations
in Phoenix, Tucson, Yuma, Flagstaff and Bullhead City.
The court official with decision-making power over federal bankruptcy cases is the bankruptcy judge,
a judicial officer of the U.S. district court. The bankruptcy judge may decide any matter connected with a bankruptcy case, such as eligibility to file or whether a debtor should receive a discharge of debts.
Much of the bankruptcy process is administrative, however, and is conducted away from the courthouse. In cases under Chapters 7, 12, or 13, and sometimes in Chapter 11 cases (all described below), this administrative process is carried out by a trustee who is appointed to oversee the case.
A debtor’s involvement with the bankruptcy judge is usually very limited. For example, a typical Chapter 7 debtor will not see the bankruptcy judge unless an objection is raised in the case. Usually, the only formal proceeding at which a debtor must appear is the meeting of creditors. This meeting is informally called a “341 meeting.” Section 341 of the Bankruptcy Code requires that the debtor attend this meeting so that creditors, who often do not show up at the meeting, can question the debtor about debts and property.
Types of Bankruptcy
The most common types of bankruptcy are Chapter 7 and Chapter 13 (for individuals) and Chapter 11 (primarily for businesses).
A Chapter 7
“liquidation” contemplates an orderly, court-supervised procedure by which a trustee takes over the assets of the debtor’s estate, reduces them to cash, and makes distributions to creditors, subject to (a) the debtor’s right to retain certain exempt property and (b) the rights of secured creditors.
Because there is usually little or no nonexempt property in most Chapter 7 cases, there may not be an actual liquidation of the debtor’s assets. These cases are called “no-asset cases.” In most Chapter 7 cases, if the debtor is an individual, he or she receives a discharge that releases him or her from personal liability for certain dischargeable debts. Also, the Bankruptcy Code requires the application of a “means test” to determine whether individual consumer debtors qualify for relief under Chapter 7. If such a debtor’s income is in excess of certain thresholds, the debtor may not be eligible for Chapter 7 relief.
A Chapter 13
bankruptcy, often called a “wage-earner reorganization,” is designed for an individual debtor who has a regular source of income. Chapter 13 allows the debtor to keep property and propose a plan to repay creditors over time (usually three to five years). Chapter 13 is also used by consumer debtors who do not qualify for Chapter 7 relief under the means test mentioned above.
The court either approves (confirms) or disapproves the debtor’s repayment plan, depending on whether the plan meets the Bankruptcy Code’s requirements for confirmation. If the plan is confirmed, the Chapter 13 debtor makes payments to creditors, through the trustee, based on the debtor’s anticipated income over the life of the plan. Unlike Chapter 7, in a Chapter 13 the debtor does not receive an immediate discharge of debts; before the discharge is received, the debtor must complete the payments required under the plan. While the plan is in effect, the debtor is protected from lawsuits, garnishments and other creditor actions.
Another type of reorganization, Chapter 11, ordinarily is used by businesses and other commercial enterprises that wish to continue operating a business and repay creditors concurrently through a plan of reorganization. The court ultimately approves (confirms) or disapproves the plan of reorganization.
Under a confirmed plan, the debtor can reduce its debts by repaying some of its obligations and discharging others. The debtor can also terminate burdensome contracts and leases, recover assets, and rescale its operations in order to return to profitability. Under Chapter 11, the debtor normally goes through a period of consolidation and emerges with a reduced debt load and a reorganized business.
There are less common forms of bankruptcy, including these:
- Chapter 12 provides debt relief to family farmers and fishermen with regular income. The process under Chapter 12 is very similar to that of Chapter 13.
- Chapter 9 provides essentially for reorganization of counties, cities, towns, villages, taxing districts, municipal utilities, and school districts. It is much like a reorganization under Chapter 11.
- Chapter 15 deals with cases of cross-border insolvency and applies, for example, where a debtor or its property is subject to the laws of the United States and one or more foreign countries.
Questions?
This broad introduction to bankruptcy offers general information only. Anyone considering bankruptcy or who has questions about dealing with debt problems should seek professional assistance to gain a full understanding of their options, including alternatives to bankruptcy.
For further information, visit www.uscourts.gov, which served as the foundation for this article and is maintained by the Administrative Office of the U.S. Courts. The website provides information from and about the Judicial Branch of the U.S. Government, including the bankruptcy courts.
