What is Chapter 7 Bankruptcy?

Chapter 7 is the simplest and most common type of bankruptcy filing. Chapter 7 is a liquidation bankruptcy. Basically the debtor submits a summary of his financial condition, including a list of all his assets and all his debts. And, in effect, he says to the court: “This is what I own. This is what I owe. Please release me of what I owe (subject to some legal exceptions) and I would give up what I own to my creditors (again subject to some legal exceptions).”

Bankruptcy Exemptions and Debt Discharge

Since the law does not want to leave the debtor destitute, it provides a list of property, depending upon the law of the jurisdiction where the case is filed, that the debtor is entitled to keep. See exemptions in bankruptcy for DC, Virginia and Maryland. With proper planning the debtor will keep all he owns, or negotiates agreements with the trustee on any unprotected property.

Most common debts are discharged, including credit cards, medical bills, and mortgages (although the lien which makes the house collateral for the loan survives the bankruptcy). Some debts, usually for reasons of public policy, are not discharged, including most student loans, governmental fines, criminal restitution, and many (but not all) taxes.

Chapter 7 Filing and Process

To file a Chapter 7 case, in which, unlike Chapter 13, no payments are made to the court, and not be subject to an objection from the US Trustee (UST) as being “abusive” of the bankruptcy system, the debtor’s household income must be less than the median for his state of residence, or he must pass a “Means Test” to see if he could fund a viable Chapter 13 plan.

Another key pre–filing requirement is a mandatory session with a UST–approved credit counseling agency to see if a debt–management plan (DMP) can be designed to resolve your financial issues. Very rarely can a viable DMP be designed. In fact, most honest credit counseling organizations will recommend bankruptcy to the client when a DMP will not benefit the debtor. You must file a certificate of your credit counseling session with your case, or it will be dismissed.

Once the case is filed the debtor automatically comes under the protection of the court and all creditor debt–enforcement action must cease. At the same time, a trustee is appointed to administer the case. The debtor, along with his attorney, is given notification of a date and time for a meeting with that trustee, and any interested creditors, to answer questions about the filing. Most Chapter 7 cases are “no asset” cases, and hence, the meeting is a formality taking about five to ten minutes.

After the meeting, the case enters a waiting period, about ninety days usually in the bankruptcy courts of DC, Virginia and Maryland, to permit the creditors to investigate the case and contest the discharge, usually upon fraud grounds, but which very rarely happens. During that time, the debtor must also take a UST–approved course in personal financial management (PFM) and file it with the court. Upon the expiration of the period, a discharge order is issued, but only if the PFM certificate is on file with the court, and the case is closed.

Businesses, too, can file Chapter 7. However, there is no discharge. One of the main motivations for a business Chapter 7 would be to liquidate the enterprise under court supervision and thereby stop calls to the owner and other efforts by creditors trying to collect on the company.