Chapter 13 Bankruptcy Overview
There are two main types of consumer bankruptcy cases. Chapter 7 and Chapter 13. Chapter 7, is generally considered liquidation. Meaning, the court will liquidate your assets to pay for bankruptcy. A Chapter 13 is different in that no assets are liquidated. The possibility of liquidation does not exist. The Chapter 13 is sometimes referred to as restructuring. However, this term does not exactly define what a Chapter 13 actually is.
A Chapter 13 is a 3 or 5 year plan. This depends on whether you pass the “means test.” The means test is a calculation based on your income and expenses. In general, the means test compares you to the average person in your area. The averages are taken from IRS living standards and the US Census Bureau. If you pass this test then you will qualify for a 3 year plan. If you don’t then your payment plan will last for 5 years. More information can be found on the means test at this link: Means Test.
As for the payment plan itself, it is different from say a car repayment or student loan repayment plan. In a Chapter 13 you don’t necessarily pay off all of your debt. There are three main types of what we can call payment plan amounts in a Chapter 13. I label them the disposable monthly income (DMI) plan, the equity plan and the 100 percent plan. Below I will give a brief description of each plan. You can find more details about how the payment plans are calculated in this article: Chapter 13 Bankruptcy Plan.
Disposable Income Plan
In this plan, you do not pay back 100% of your debt. You only pay back what you can afford for the 3 or 5 years. For example, if your income minus your necessary expenses is $200, you will pay $200 a month for 3 or five years. Any debt left over after that term will be discharged like a Chapter 7.
This is a plan used when you have equity or assets that are above the limit for which you can protect in bankruptcy. Equity is your property and money that is free and clear from any liens. For example, if your car is paid in full, then the value of the car is your equity. Also, if your home is worth $100k, and you owe $80k, then the house has $20k worth of equity. The easiest way to describe this plan, is that you will pay the court the amount of equity you have over 3 or 5 years. If you have $60k worth of equity then you will pay back $60k to the court so they can distribute it to your creditors. The benefit is that you will not have to liquidate your assets.
100 Percent Plan
The one hundred percent plan is for debtors who disposable monthly income is enough to pay 100% of their debt. The benefit of the 100% plan is that no interest accrues during the length of the plan. People who find themselves in this plan have cards with high interest rates and cannot keep up with the monthly payments. Filing the Chapter 13 will normally reduce their overall monthly payment and save themselves thousands of dollars worth of interest.
For a more in depth review of the different payment plans visit this article: Chapter 13 Bankruptcy Plan.
Benefits of a Chapter 13
There are a number of benefits to filing Chapter 13. Some are mentioned above. These benefits include, avoiding a second mortgage, paying less interest, paying less than your total debt and saving your assets from liquidation. Additionally, during the life of the Chapter 13, creditors can no longer harass, file lawsuits, garnish wages, put liens on property or take any other collection actions against you.