As the effects of the COVID-19 pandemic continue to drive the U.S. economy, chapter 7 and 13 bankruptcy filings are bound to accrue across the nation’s courtrooms. While 2020 experienced an all-time low for bankruptcy filings (the lowest number since 1985), this trend
will likely take a drastic turn as government relief expires, and individual consumers and businesses can no longer delay.
If and when the expected bankruptcy spike
occurs, creditors need to be aware of their rights, obligations, and even alternatives within this complex landscape. A practical knowledge of bankruptcy terms and principles can go a long way in helping you navigate the process more smoothly. In a recent two-part Ask a Pro webinar series, Navigating Chapters 7 & 13 Bankruptcies, our firm’s top bankruptcy professionals tackled the most frequently asked questions about these filings and provided fundamental information that can benefit lenders and their decision makers.
Check out Part I and Part II of this series at the links below.
Here’s a quick preview of some of the top questions – and our respective answers – from this series:
What are the benefits to the debtor of filing for chapter 13 relief as opposed to chapter 7?
Simply put, the debtor gets to maintain his or her property.
A chapter 13 is very structured, allowing for an adjustment of debts for individuals and sole proprietors with a regular income. Through this chapter, a debtor can pay debts over time, typically between three to five years, depending on his or her monthly income. Chapter 13 acts as a debt consolidation, allowing the debtor to make a single monthly payment to an appointed chapter 13 trustee. The trustee then distributes those funds to the debtor's creditors, in accordance with a court-approved plan. At the end of the repayment period, the debtor will be cured of defaults on secured loans.
On the flip side, a chapter 7 bankruptcy does not involve the filing of a plan of repayment. Rather, an appointed trustee gathers and sells any property not protected by an exemption. The proceeds from this liquidation are used to pay back creditors. In exchange, the debtor will be discharged of his or her debts.
What debts are non-dischargeable in bankruptcy?
While the goal of both chapter 7 and chapter 13 bankruptcy is for debtors to put their debts behind them, not all debts are eligible for discharge. For consumer creditors, there are three common examples of non-dischargeable debts:
- Fraudulent conduct: This can be very difficult to prove in a court of law. You need to demonstrate that the debtor knowingly misled you when applying for the loan and that you justifiably relied on that misrepresentation. If you requested documentation, such as tax returns, and the debtor falsified them, you can show that you reasonably relied on this fraudulent information.
- Student loans: Student loans are notoriously difficult to discharge through bankruptcy. Non-dischargeable student loans include government-guaranteed loans, those funded by a nonprofit organization, and qualified education loans (used to attend Title IV school).
- Debts omitted from chapter 13 schedules: If the debtor does not include a creditor in the filing, the creditor won’t get notice or have time to file a claim. Once the bankruptcy completes, you can aim to collect on the debt.
What is the role of the chapter 7 trustee?
When the debtor files his or her bankruptcy petition, the court appoints an impartial case trustee whose primary role is to administer the case and liquidate the debtor’s non-exempt assets in a matter that maximizes the return to unsecured creditors. The trustee also reviews the debtor’s schedule to see if there are any red flags such as hiding assets or not disclosing all income.
Once the trustee reviews all of the debtor’s assets, they will issue a notice to all unsecured creditors, letting them know they can file a proof of claim. If you receive this notice, this is your big opportunity. You need to file a claim before the deadline, otherwise you may miss your chance to recover money.
If a debt isn’t included in a chapter 13 filing, can the creditor collect on it?
If debtor doesn’t put it in there, you cannot try to collect on it while the bankruptcy is pending. However, once the case is completed, your debt is not discharged and remains collectible.
Here’s something to keep in mind: If you get notice of the bankruptcy in some way and have an opportunity to participate in plan, don’t ignore it. If you know the chapter was filed, you should file a claim so you can participate in the repayment plan with clean hands. Don’t sit on your rights.
What should a creditor do if the debtor is in a chapter 7 or 13 bankruptcy and the collateral is not insured?
If you know the collateral is not insured, under-insured, or you’re unable to get confirmation that it’s covered by insurance, you should take immediate steps to protect yourself.
First off, you can obtain your own insurance to protect the collateral. In addition, debtors are required to obtain and keep insurance throughout the duration of the bankruptcy. If they fail to do so, you can file for relief of stay, asking the court for permission to take certain collection actions against the debtor.
You are entitled to put pressure on debtor and their counsel to obtain insurance. An aggressive approach is often the best approach in these circumstances.
Does the co-debtor stay exist in both chapters 7 and 13 bankruptcies?
There are some limitations on the co-debtor stay. The most significant limitation is that the co-debtor stay is not available at all in chapter 7 cases. Since most individual consumers file a bankruptcy case under either chapter 7 or chapter 13, a chapter 13 filing is necessary to obtain the co-debtor stay.
Another limitation is that the co-debtor stay applies only to consumer debts, not commercial business debts
. The Bankruptcy Code defines “consumer debt” as a debt incurred by an individual primarily for a personal, family, or household purpose. So, if the debtor and co-debtor are both responsible for a debt that was NOT incurred by an individual primarily for personal, family, or household purposes, the co-debtor stay does not apply to that debt.
There are some circumstances where the bankruptcy court could issue a ruling that removes the co-debtor stay in a particular case.
When a creditor obtains relief from stay, is the debtor required to return the collateral?
Unfortunately, no. When a relief from stay is granted, it does not remove the collateral from the bankruptcy estate or grant the creditor ownership of the property. It simply removes the stay and restores the parties to their state law rights. You can enforce those rights to the extent that the relief from stay order permits. So, you can pursue the collateral as you would absent of a bankruptcy case. If the debtor does not hand over the collateral upon your requests, you need to go through the state court to recover it.
For more comprehensive FAQs and insights about chapters 7 and 13 bankruptcy practices, watch our two-part webinar series here and here. If you have additional questions that need to be answered, please contact our bankruptcy team.
This blog is not a solicitation for business and it is not intended to constitute legal advice on specific matters, create an attorney-client relationship or be legally binding in any way.