All bankruptcy wipes out debt. The type of bankruptcy you need to file usually depends on the type of debts you owe.
David Debtor had some unexpected medical bills last year. His daughter had emergency surgery out-of-network and he ran his car off the road one night. He now owes tens of thousands of dollars that he can’t afford to pay. He tried to retire the debt as best he could. But his payments hardly made a dent and put him behind in other areas. He’s not quite at the desperation point, but he is getting close.
Debbie Debtor was out of work for a few months last year and missed two mortgage payments. The bank sent her an acceleration notice and stopped accepting partial payments. So, that debt is now astronomical. She cannot afford to reinstate the loan. Every month, the bank sends another threatening letter. Each new one is more ominous than the last one. She hasn’t received a foreclosure notice yet, but she knows that notice is coming soon.
How Chapter 7 Works
Medical bills are unsecured debts. Much like credit cards, there is only a verbal or written promise to pay. The chapter 7 liquidation bankruptcy wipes out most of these unsecured debts. David, or any other debtor, must file a petition and schedules. Then, the trustee (person who oversees the bankruptcy for the judge) liquidates all the debtor’s nonexempt property to satisfy creditors.
That process sounds very painful. In fact, in board games like Monopoly, declaring bankruptcy usually means that the player “loses” the game. In this case, the real world is more forgiving than a board game. Quite simply, most people in Minnesota do not have nonexempt assets.
Minneapolis debtors may elect between federal or state exemptions. As a general rule, the categories are pretty much the same, but the covered amounts are sometimes much different:
- Homestead: Federal exemptions protect up to $47,350 in home equity. There’s a difference between house value and home equity. If you still owe $180,000 on your $200,000 home, the equity in your house is exempt. You have only $20,000 in equity. State law exempts up to $390,000 of value and up to 160 acres of land.
- Retirement Accounts: Both federal and state exemptions protect all 401(k)s, 403(b)s and defined-benefit pensions regardless of their value – these types of retirement accounts are not considered to be part of a bankruptcy estate. IRAs are a part of the bankruptcy estate, but IRAs are exempt up to $1,280,025 in value. The protection may not apply to inherited IRAs.
- Personal Property: Federal law exempts up to $12,625 in furniture, clothes, appliances, and other household goods and other such items. State law exempts up to $20,000. That figure is about equally divided between “personal property” and “tools of the trade.”
- Motor Vehicle: Each person can exempt one motor vehicle with a net value of $3,775 (federal exemptions) or $4,600 (state exemptions). As a general rule, new cars have high loans and almost no net value. Used cars are usually not worth much from a financial standpoint.
- Wildcard Exemption: This category is unique to federal law, so most Minnesotans choose federal exemptions. Up to $11,850 of the homestead exemption, plus an additional $1,250, can protect nonexempt assets, like additional motor vehicles, boats, or hunting cabins.
Properly valuing assets usually makes a difference. According to the Bankruptcy Code, the debtor must list an asset’s as-is cash value in Schedule A. For a home, that’s arguably 60 percent of the fair market value, which is the top amount that most home investors would pay for an as-is cash sale.
About six months after the debtor files a Chapter 7 petition, the bankruptcy judge wipes out medical bills, credit card debt, payday loans, and most other kinds of unsecured debt.
How Chapter 13 Works
A repayment plan bankruptcy does not wipe out Debbie’s home mortgage debt. But it does give her the time she needs to pay back the past-due payments.
The same exemptions apply in a Chapter 13 as in a Chapter 7. Furthermore, a Chapter 13 wipes out most unsecured debt. As for home mortgages and other secured debts, bankruptcy gives people up to five years to catch up on overdue payments. During this period, the moneylender can only take adverse action, such as making collection phone calls, in extreme cases. At the end of the repayment period, the past due balance is zero. The debtor has a fresh financial start.
Chapter 20 Bankruptcy
This option is not in the Bankruptcy Code, but many Minnesota families use it to wipe away debt. Generally, a person can convert from Chapter 13 to Chapter 7 at any time. Many individuals begin in Chapter 13. If they find that the monthly debt consolidation payment is too high and an attorney cannot get it lowered, they can convert to Chapter 7. Their unsecured debts are wiped out in a matter of months and they get to start over.
Other people file a Chapter 7 and obtain a discharge. But they still need time to catch up on past-due secured debt payments. These individuals can then file a Chapter 13 to take advantage of the protected repayment period. They do not need to worry about a discharge, since the Chapter 7 already wiped away their unsecured debts. Using the two chapters in this way – in essence combining chapter 7 and chapter 13 is what is referred to as a “chapter 20” bankruptcy case.
Bankruptcy wipes out debt. For a free consultation with an experienced bankruptcy attorney in Minneapolis, contact Kain & Scott. We are the oldest and highest-rated bankruptcy firm in town.