Bankruptcy Law – What is Bankruptcy?

Bankruptcy law is a system of rules that govern unfortunate situations where people or businesses possess debts exceeding their assets. Federal bankruptcy law is contained in Title 11 of the United States Code.


Chapter 7 bankruptcy is a liquidation proceeding where the non-exempt debtor’s property is sold or reduced to money and distributed to creditors.


Creditors are people or businesses that have a legal claim against another person, called the debtor. The law provides ways for the debtor to stop creditors from collecting those debts until the court sorts the debts out as specified by law. Bankruptcy may also protect the debtor’s property by giving it to a trustee.

Generally, a bankruptcy case involves one of two options: liquidation or reorganization. Liquidation is governed by Chapter 7 of the Bankruptcy Code, in which the debtor surrenders non-exempt assets to a trustee for sale. The proceeds of the sale are then distributed to unsecured creditors. In addition, the debtor receives a discharge of his or her debts. The discharge does not eliminate the right of creditors to pursue collection activities against the debtor or prevent the debtor from filing for a subsequent bankruptcy, but it does prohibit creditors from suing the debtor for the debt.

In a reorganization, the debtor attempts to put together a plan for repaying creditors. A trustee is appointed to oversee this process, and the debtor’s creditors must agree to the plan in order for it to be confirmed by the court. The debtor may choose to retain certain assets, such as Individual Retirement Accounts, personal vehicles up to a specific value and homes with varying levels of equity.

In some cases, an examiner is appointed by the court to investigate charges of fraud, dishonesty, incompetence or gross mismanagement by a debtor’s current or former management. This type of litigation is a part of the bankruptcy process, but is not as common as it once was. Creditors may file an involuntary bankruptcy petition against a company to try to force the company into reorganization, but this is an uncommon tool. It can carry significant liability for creditors in terms of attorneys’ fees and damages, and creditors will often prefer to take collection action against the debtor rather than pursue an involuntary bankruptcy.


Bankruptcy law is controlled by a set of federal statutes known as the United States Bankruptcy Code. This law, along with related state and common laws, governs the debtor-creditor relationship. The bankruptcy process itself is supervised and litigated in federal courts. The law provides for two types of bankruptcy: Chapter 7 and Chapter 13. Chapter 7 involves a liquidation of assets; debts are discharged without repayment. Chapter 13 involves a debtor-reorganization plan that encourages repayment of at least some of the debt over a period of three to five years. A person’s eligibility for either type of bankruptcy is determined in part by income.

Bankruptcy trustees are charged with liquidating a debtor’s assets for the benefit of creditors. Those assets may include the debtor’s primary residence, vehicles and other property in varying amounts. Generally, certain property is protected by the bankruptcy law including household furniture and appliances, tools of the trade and vehicles up to a certain value. A trustee may also sell a debtor’s interest in the equity of certain properties. For example, if a debtor’s home mortgage has secured by the house itself, that interest would be sold to pay the underlying debt.

A debtor’s bankruptcy case is often complicated by the presence of co-debtors. In most cases, a creditor may not pursue collection of a “consumer debt” from a co-debtor unless the court specifically authorizes it. A debtor’s failure to comply with the law in this regard can result in a violation of the automatic stay and subsequent dismissal of the bankruptcy.

A debtor can obtain a discharge in bankruptcy by proving that his or her debts have been incurred for a personal, family or household purpose and are not due to fraud or dishonesty. Once the court issues this order, the creditors are prohibited from seeking payment or taking any further legal action against the debtor. A creditor who attempts to collect a debt that has been discharged is subject to criminal sanctions and civil liability.

Filing for Bankruptcy

Bankruptcy is a legal proceeding overseen by federal courts that allows individuals and businesses to eliminate some or all debts and get a fresh start. Creditors still have an opportunity for repayment, but the debtor is given protection under bankruptcy laws from collection efforts while the case is ongoing.

Consumers and small business owners typically choose between two types of bankruptcy proceedings-Chapter 7 and Chapter 13. Both offer the chance to liquidate or sell nonexempt assets and use the proceeds to pay off debt. However, the laws of your state may allow you to keep certain assets such as Social Security payments, unemployment compensation, limited equity in a house or car, and trade tools.

The liquidation process in a Chapter 7 bankruptcy involves turning most property into cash to disperse among creditors. The only exception is property a debtor reaffirms, or sticks to their guns about, such as child and spousal support obligations, most student loans (unless the debtor can prove exceptional circumstances), court restitution orders, criminal fines and some tax debts.

In a typical Chapter 13 bankruptcy, the debtor proposes a plan to repay some or all of their unsecured debt over the course of three to five years. Creditors must approve the plan in order for it to go forward. While this option can provide long-term debt relief, it is likely to affect your credit report for up to 10 years.

If you are struggling with debt, consider consulting a qualified bankruptcy lawyer. Before you decide to file, weigh all options for debt relief including a debt management program, debt consolidation loan or debt settlement. All of these methods require 3-5 years to reach a resolution and none guarantees that all of your debts will be eliminated. However, if you can’t afford to make any of these alternatives work, bankruptcy may be the right choice for you.