A side-by-side comparison of Chapter 7 and Chapter 13 Bankruptcy.

Chapter 7
Chapter 13
Liquidation of non-exempt assets, discharge of general unsecured debts.
Reorganization and repayment plan.  Debts split into categories. Some paid in full, others paid a percentage based on income and other factors.
Time between filing and discharge is approximately 4 months.
Time between filing and discharge is approximately 3-5 years.
More Expensive
Must be below median or be able to “beat” the Means Test.
Surplus disposable income on either the Means Test or the budget.
Prior Bankruptcy
Ineligible to file if filed a prior Chapter 7 in the last 8 years or a prior Chapter 13 in the last 6 years.
Eligible to file even if not eligible for a discharge. Eligible for discharge 4 years after prior Chapter 7 or 2 years after prior Chapter 13.
If equity exceeds allowable exemptions, trustee can sell for benefit of unsecured creditors.
Assets are not liquidated, but repayment plan may require a minimum threshold paid to unsecured creditors to make them as whole as they would have been under Chapter 7.
Stay Protections
Both chapters stop collection efforts, lawsuits, wage garnishments, and utility disconnection.
Repossession & Foreclosure
Automatic stay suspends pending actions temporarily, but no adequate protection for arrears.
Arrears are cured. Foreclosure and repossession fully stayed pending successful completion of repayment plan.
Codebtor Stay
Other Issues
Preference payments, insider payments, transfers of assets, excessive gambling losses, and fraudulently incurred debt all pose the risk of adversary proceedings or denials of discharge.
Chapter 13 is sort of a fix-all remedy to anything that might be a problem in Chapter 7. Many issues become non-issues, or are mitigated with a floor amount paid to unsecured creditors spread out over the life of the repayment plan.
Non-dischargeable debts simply survive the bankruptcy.
Certain non-dischargeable debts (priority debts, such as taxes and child support) are paid in full.  Other non-dischargeable debts (such as student loans) can be paid down concurrently with unsecured creditors.
Most people have improved credit scores about 12 months after bankruptcy is filed, assuming they have made payments on surviving debts (e.g. mortgages, car loans, or student loans).
Credit rebuilds a little faster in Chapter 13 than in Chapter 7.


Lessons learned the hard way: don’t sell stuff.

Each of my clients – upon retaining our firm – receives a sheet with 10 Commandments – or 10 things not to do that would totally screw up your bankruptcy case.  Among them are such pearls of wisdom like “Don’t sell or gift anything you own.” or “Don’t pay money to relatives.”  I’m disheartened by the number of my clients who don’t follow these directions and do these things anyway.
Most of the time, they’re not a big deal, and the trustee ignores the transfer or preference.
But not always.
An old friend of mine called me up with this scenario…  His mother had sold him real estate a little more than a year before she filed for Chapter 7 Bankruptcy.  She sold the property for at least $50k less than what it was actually worth.  Now, the trustee was seeking to avoid the transfer, or alternatively, to collect $50k against my friend.  Keep in mind, my friend is not the one who filed for bankruptcy!
Now, the reason the trustee has the authority to void the transfer or sue my friend to recover the $50k is the same basis of reasoning that I explained in my article re: Osberg v. Halling.
Fortunately, we were able to settle the case for substantially less than $50k.  But what a lousy result.  Someone who doesn’t file bankruptcy having to fork out thousands of dollars for someone else’s bankruptcy.  And his remedies are limited – he can try to sue his own mother – the number of problems with that option I can’t even begin to fathom – or, he can try a malpractice claim against his mother’s attorneys (assuming he can prove that they gave mom bad advice, as opposed to mom just ignoring good advice).
The lesson to be taken here: your bankruptcy can have adverse impact on other parties.  You’re not doing anyone any favors by selling your assets prior to bankruptcy, and you’re not doing any favors by paying money to relatives prior to bankruptcy.
And for heaven’s sake – follow your attorney’s instructions!

Divorce and Bankruptcy

Divorce and bankruptcy tend to go hand in hand.  Either the financial stresses that led to bankruptcy also break down the marriage, or ex-spouses use bankruptcy as a way to clean-up and get a fresh start after divorce.
However, the issue of divorce can weak havoc on bankruptcy, and vice-versa.  So it’s good to revisit some of these themes.  Particularly when you’re trying to decide which to do first: file for divorce or file for bankruptcy, and whether to file joint or individual.  Many of these themes have circular reasoning, so there really was no linear way to present these, other than randomly…
  • Filing a joint bankruptcy before a divorce is finalized is almost always the preferred route.  It’s cheaper to file one joint petition rather than two separate individual petitions.  Both debtors benefit equally from the discharge, neither one has to rely on the “phantom discharge”, and it renders most “hold harmless” clauses in divorce papers moot.
  • On the other hand, some debtors don’t want to file joint because of impact on credit scores, because bankruptcy causes the revelation of certain financial information that could give one of the spouses leverage in divorce proceedings, or because the income potential of one debtor disqualifies both debtors – as a married couple – from Chapter 7.
  • For reasons beyond my comprehension, creditors are not required to abide by the terms of divorce orders.  Which means that a bankruptcy filed after divorce may not be as effective as a bankruptcy filed before divorce.  Divorce orders usually contain “hold harmless” clauses.  Which means if one spouse gets a debt discharged in bankruptcy that was assigned to him or her in the divorce, and the creditor then pursues the other spouse for payment, the second spouse can go into family court and get a non-dischargeable support order from the first spouse for damages resulting from their failure to pay the debt assigned to them in divorce.  So, if you do file divorce before bankruptcy, make sure that your attorney knows of your intent to file for bankruptcy and that your divorce papers do not include “hold harmless” clauses.  (DO NOT FILE FOR DIVORCE WITHOUT AN ATTORNEY!  Most divorcees who have done so will tell you that it was a mistake.)
  • Get rid of the mentality that you and your spouse split everything 50-50, or that credit cards in one spouse’s name are not the responsibility of the other spouse.  Wisconsin is a community property state, which means that married spouses are deemed a single legal entity, and each spouse is presumed to own a whole and undivided interest in all assets (and share a whole and undivided liability in all debts).
  • Consequently, a bankruptcy petition must disclose the assets of both spouses (if the divorce is not yet finalized), even if one spouse is filing without the other spouse.  Assets of the non-filing spouse that are not disclosed (even if it is due to the non-filing spouse’s lack of cooperation) cannot be taken as exempt, which means the trustee can seize and liquidate unreported and non-exempt assets of the non-filing spouse.  While the filing spouse might not care, this adverse impact on the non-filing spouse could hurt the filing spouse when it comes time to settle the divorce.
  • Additionally, in a non-filing spouse scenario, only the filing spouse can claim exemptions (which are generally half of the exemptions available to joint filers), often creating non-exempt assets where there would be none of both spouses filed.
  • Bankruptcy filed after divorce also must contend with a potential fraudulent conveyance issue.  Were the assets in divorce split roughly 50-50?  If not, why?  If the non-filing spouse got the house, both cars, and all the jewelry, and the filing spouse got stuck with nothing, there could be a fraud issue.  It is not unheard of for a married couple to get divorced just to protect assets from unsecured creditors (in fact, I had a client once myself who tried to pull this stunt, and I fired her as a client).
  • In the event that a single filer has enough exemptions on his own to cover the assets of both spouses, then the question becomes whether the filing spouse can exempt the non-filing spouse’s interest.  If that seems strange to you in light of what I said earlier about community property, you’re not alone.  It seems that this is where the “whole and undivided interest” standard breaks down into a 50-50 theory, again for reasons beyond my comprehension.  At any rate, the court then looks at the non-exempt asset.  Is it readily divisible – like a bank account?  If yes, the debtor can only exempt their half share.  If it is not readily divisible (like a house or single vehicle), then the debtor can exempt both spouse’s share in the asset, provided enough exemptions exist to cover the asset.
  • Once a divorce is final, former spouses can no longer file a joint petition.  A joint bankruptcy petition must be filed before the divorce is finalized.
  • As you may have gathered, it is quite simple for one spouse to adversely impact the spouse by filing for bankruptcy.  Some people would say this is unfair.  I agree.  But it is also part of the cost of marriage that too few people understand and appreciate before they get married.
  • I get a number of clients who cannot provide me with the information of their non-filing spouse because they have been estranged for so long.  They may not be on speaking terms, or they may not even know how to contact the spouse anymore.  Does that mean the filing spouse is off the hook for disclosing the information of the non-filing spouse?  Unfortunately, no.  As stated earlier, unreported assets could potentially be liquidated by the trustee, and even if the filing spouse doesn’t care, it would impact the divorce proceedings when they come.  The solution – if you are unable or unwilling to work with your spouse in a joint filing is to file for divorce first.  Newspaper publication resolves any problems with being unable to locate/contact the other spouse.  Just remember that in filing divorce before filing bankruptcy, to be on the lookout for “hold harmless” clauses that can affect your discharge.

The Junked Vehicle Conundrum

All too often, I am encountering debtors who have – in one way or another – disposed of an asset which was collateral on a secured loan.  And that casts doubt as to dischargeability of that debt.
The 3 most common scenarios:

  1. Debtor owns a car with a loan on it, cannot afford the payments, and sells the car to a friend who assumes the loan.
  2. Debtor owns a car with a loan on it, the car breaks down, and the debtor sells the car to a junkyard for scrap value.
  3. Debtor gets into an accident that totals the car, and is uninsured.

Of course, this problem doesn’t just revolve around cars.  This issue can crop up with any secured loan.  It just happens most commonly with motor vehicles (and sometimes jewelry from a broken-off engagement).
Problems arise in both the federal bankruptcy code and state statutes…

Plaintiff bank had a security agreement on an old automobile owned by defendant debtor. Defendant sold this car without certificate of title to a junk dealer for $25.00. Defendant later filed for Chapter 7, and plaintiff moved the court to deny defendant discharge under 11 U.S.C.S. § 727(a)(2)(A), or alternatively to exclude this debt from discharge under 11 U.S.C.S. § 523(a)(6) for willful and malicious injury by defendant to the property which plaintiff had a security interest in. The court held that defendant had willfully and maliciously caused injury to the collateral under § 523(a)(6).  First of Am. Bank v. Afonica (In re Afonica), 174 B.R. 242 (Bankr. N.D. Ohio 1994).

Some of you might be asking why there is a dischargeability problem in the case of the auto accident, since it is – by definition – an accident, and ergo, no malicious intent.  However, the lack of insurance as required by the lender can be construed as a failure of fiduciary duty to maintain and preserve the collateral.  I.e. – most insurance policies list the lienholder as a loss payee, so there is adequate protection to the lender for the debt owed in the event of loss of collateral.  Failure to maintain insurance – not the accident itself – is what can land you into trouble.
The right to recover collateral is found in the Wisconsin Consumer Act (Wis. Stat. § 425.201, et seq.), and in addition to a lack of discharge – criminal penalties could even be assessed (Wis. Stat. § 425.401).
The lesson: if you have a secured loan, make sure the collateral is insured and do not sell, gift, or dispose of the collateral!

Should I sell my property before I file for bankruptcy?

No! Once you have decided to file for bankruptcy, all of your assets should stay with you. If you sell or gift property to another person, the mere act (regardless of intent) creates the appearance that you are trying to hide or shield assets away from the Trustee, which could result in a whole slew of problems for your bankruptcy case (and possibly the person you transferred the asset to).
Some people take the position that a transfer is not fraudulent if you sell the property for more than or equal to the fair market value, because then you at least have the cash, which can be accounted for on your schedules and either liquidated or taken as exempt in place of the property transferred. Trustees will certainly take that analysis into consideration. However, don’t expect that fact alone to save you. For one thing, as I have mentioned many times before in this blog, the value of property is ordinarily subjective. What you think something is worth might not be the same as what the Trustee could sell if for. And by transferring the property, you are taking away the Trustee’s ability to evaluate your assets for himself.
Furthermore, be advised that in the state of Wisconsin, it can be a felony to sell property that has a lien on it unless you are able to satisfy the debt owed to the lienholder.