What is Chapter 7?

Chapter 7 is the type of bankruptcy that eliminates most debts and protects most property. It’s the best choice when a person has debts that can all be eliminated and owns no property that will be taken away in the bankruptcy.

An example of how Chapter 7 will work.

Mary owes $15,000 on various credit cards bills, she owes several thousand for medical bills. She earns enough to pay her regular living expenses that include her house payment and car payment. She has no hope of ever being able to pay the credit card and medical bills. Her recent divorce and medical problems have left her hopelessly behind on the bills.

A chapter 7 bankruptcy will eliminate Mary’s credit card bills and medical bills. Technically, it will also eliminate her car and house loan. But, Mary wants to keep both the house and her car. She will need to continue to pay those bills to avoid losing them to repossession and foreclosure. Because she does not own any expensive luxury items or investments, she won’t lose any property in her Chapter 7 bankruptcy.

An example where Chapter 7 isn't the best idea:

Bill owns a small business. He relies on the business to take care of his family. It’s a small machine shop that makes parts for other local companies. He is the sole owner of the business and needs his equipment to continue to run the business. The value of that equipment is about $10,000 (far more than the $2,500 that can be protected under the bankruptcy laws as tools of the trade). Also, last year he fell behind on making the tax deposits for his employees. Although he has worked out a payment plan with the IRS, the penalties and interest have made it very difficult for him to make the payments. His house payment is several months behind and he is facing foreclosure. He is afraid the bank will take his car any day—he has not been able to make a payment in 3 months. He also owes $15,000 on credit card bills and several thousand for medical bills.

A chapter 7 won’t solve Bill’s problems. The payroll taxes will not be eliminated. Although he would get a little extra time to bring his house and car payments current, if he can’t get caught up within a couple of months, he may lose them. Also, the court trustee will be able to sell his business equipment to pay part of Bill’s debts. Then, Bill would be in worse shape: he would be out of business without his house or his car, deep in debt to the IRS.

Chapter 7 is definitely not the solution for Bill! He should consider Chapter 13.