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Introduction
The purpose of chapter 7 is to discharge debts and give the debtor a "fresh
start." The discharge extinguishes the debtor's personal liability on debts. A
discharge is available to individuals, not partnerships or corporations. Although most
individual chapter 7 cases result in a discharge of all debts, some types of debts are not
discharged, and a discharge does not extinguish liens on property. In rare cases a chapter
7 may be dismissed as an abusive filing if the court finds an individual has the ability
to pay a meaningful dividend to unsecured creditors in a chapter 13 case.
How Chapter 7 Works
A chapter 7 case begins by filing a petition with the bankruptcy court in the district
where the individual lives or where the business debtor has its principal place of
business or its principal assets. The debtor is required to file schedules of assets and
liabilities, including current income and expenses, and a statement of financial affairs.
A husband and wife may file a joint petition, or a spouse may file individually. Joint
petitioners pay only one filing fee.
Filing a petition "automatically stays" most creditor actions against the debtor
and the debtor's property. This stay arises by operation of law and requires no judicial
action. While the stay is in effect, creditors cannot initiate or continue lawsuits,
repossessions, or wage garnishments.
One schedule filed by individual debtors lists "exempt" property. Federal
bankruptcy law provides that an individual [vs. business] debtor can protect certain
assets from creditor claims because this property is exempt under federal bankruptcy law
or the laws of the debtor's state. Married couples may only claim one set of exemptions.
A bankruptcy trustee is appointed when the case is filed. The trustee's duties are to
examine and verify the accuracy of the debtor's bankruptcy papers and to identify assets
which are not exempt. The trustee sells the non-exempt assets which have value and
distributes the net proceeds to the creditors. If an asset has a loan against it, the
debtor can keep the asset if the equity is exempt.
A "meeting of creditors" is held about 30 days after the petition is filed. The
debtor must attend the meeting, and if a husband and wife filed jointly, both must attend.
Creditors may appear and ask questions regarding the debtor's financial affairs and
property, but creditors rarely attend. The trustee conducts the meeting, and the debtor
must cooperate and provide the records the trustee requests. Otherwise, the debtor could
be denied a discharge.
The bankruptcy court clerk issues the discharge, usually a few days after 60 days has
elapsed from the first date set for the creditors meeting. A copy of the discharge is
mailed to the debtor and all the creditors listed in the debtor's schedules.
Role of the Trustee
The case trustee is appointed to administer the case and liquidate the debtor's non-exempt
assets. In the most cases, all of the debtor's assets are exempt or subject to valid
liens, so a trustee usually has no assets to sell. These are called "no asset"
cases. If the debtor has non-exempt assets or if the trustee later recovers assets to
liquidate for distribution to unsecured creditors, the creditors are given an opportunity
to file a form stating the basis of their claim against the debtor or the debtor's assets.
The filing of a bankruptcy petition creates an "estate," and the trustee becomes
the temporary legal owner of the debtor's property. The estate consists of all the
debtor's legal or equitable interest in property, including property owned or held by
another person. The estate includes tangible and intangible assets, such as insurance
claims or lawsuits for damages.
The trustee can sell non-exempt property as well as property with a market value in excess
of the sum of any security interest or lien and the allowed exemption the debtor holds in
the property. Objections to debtor's exemption claims must be filed within 30 days of the
date a creditors meeting is completed.
Discharge
A bankruptcy discharge releases the debtor from personal liability and prevents the
creditors from taking any further action against the debtor or his property to collect the
debts. As a general rule, individual debtors receive a discharge in over 99 percent of
chapter 7 cases.
A creditor has two options to oppose the discharge: file a complaint objecting to the
debtor's bankruptcy discharge; or file a complaint to determine if the creditor's debt is
excepted from the discharge. A creditor may pursue one or both of these remedies by filing
a complaint with the bankruptcy court. The time limit for an adversary action is very
short --- just 60 days from the first date of the creditors meeting, unless extended by
court order.
The grounds for objecting to a bankruptcy discharge in a chapter 7 are narrow, and the
creditor or trustee objecting to the discharge has the burden of proving the case. In
general, the grounds for denying a discharge are: the debtor failed to keep and produce
adequate financial records; the debtor failed to explain satisfactorily a loss of assets;
the debtor committed a bankruptcy crime; the debtor failed to obey a lawful order of the
bankruptcy court; or the debtor fraudulently transferred, concealed, or destroyed property
that would have been property of the estate.
Once a discharge is granted, the trustee, a creditor, or the U.S. Trustee may later file a
complaint to revoke a chapter 7 discharge if they can prove: a) the discharge was obtained
through the fraud of the debtor; or b) the debtor acquired property that is property of
the estate and knowingly and fraudulently failed to report the acquisition of such
property or to surrender the property to the trustee. Generally, this complaint must be
filed within a year after the discharge was granted.
Certain types of debts may not be discharged in a chapter 7 such as alimony and child
support, most taxes, student loans made or guaranteed by a governmental unit, debts for
death or personal injury caused by the debtor's operation of a motor vehicle while
intoxicated from alcohol or other substances, and debts for criminal restitution orders.
To the extent that these types of debts are not fully paid in the chapter 7 case, the
debtor is still responsible for them after the bankruptcy.
Debts for money or property obtained by false pretenses, debts for fraud while acting in a
fiduciary capacity, debts for willful and malicious injury to another or to the property
of another, and debts arising from a property settlement agreement incurred during or in
connection with a divorce will be discharged unless the creditor timely files an adversary
complaint. The creditor must file the complaint within 60 days from the first date of the
creditors meeting. The presumption is in favor of the discharge, and the creditor normally
has the burden of proof to show that such debts should be excepted from the bankruptcy
discharge.
Secured debts
Secured creditors normally retain the right to seize their loan collateral, even after a
discharge is granted. The debtor must decide whether to keep the asset. If a debtor
returns the collateral, and if a discharge is granted, the debtor will have no further
liability to the creditor.
A debtor wishing to keep the asset, such as an automobile, may "reaffirm" the
debt or redeem the property. A reaffirmation is an agreement between the debtor and the
creditor where the debtor promises to pay all or a portion of the money owed. The
reaffirmed debt will still be owed after the discharge. In return, the creditor promises
as long as payments are made, the creditor will not repossess the automobile or other
property. If the debtor defaults on the payments, the creditor may repossess and sell the
collateral. Unfortunately, if the sale price is not enough to pay off the debt, the debtor
will still owe a deficiency to the creditor.
There is another option available in California sometimes called the "ride
through." The debtor must keep the payments current, and the creditor retains its
right to seize the collateral. If debtor defaults on the payments, the creditor may seize
and sell the collateral. However, the debtor will NOT owe a deficiency, because the debtor
did not formally agree to reaffirm the debt.
A debtor may opt to redeem an asset by paying the fair market value in a lump sum. For
example, if the balance on a car loan is $15,000 but the car is only worth $10,000, it may
be sensible to redeem the car. The problem is most debtors who file bankruptcy do not have
ready cash [or a rich relative] to pay the fair market value in one lump sum. There are
companies who provide redemption financing. Their interest rates are high, but if the gap
between the loan balance and the value of the car is large enough, a redemption loan may
be less expensive than the existing loan on the car.
Please do not hesitate to send us an e-mail (info@ruthtechnology.com) if you have questions, comments or if
you come across something that would contribute to this section.
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