What Happens When You File for Bankruptcy?

Bankruptcy is a federal court process that helps people overwhelmed by debt find relief and build a fresh start. While filing for bankruptcy has long-term consequences, it also offers many benefits, such as access to debt management plans, asset protection, and financial and emotional relief.

If you're considering bankruptcy, it's essential to understand what to expect from this debt-relief option—including the pros and cons—so you can start to build a foundation of financial health.

How does bankruptcy work?

Bankruptcy offers a path for you to temporarily stop collections and lawsuits from creditors and either reduce or eliminate your debts altogether. Several types of bankruptcy exist to meet various debt-relief needs, such as types geared towards individuals and small businesses versus large corporations. While bankruptcy can help you manage your debts, it comes with its costs.

Bankruptcy filing will stay on your credit score for years, which can hinder your ability to obtain a credit card, loan, or mortgage in the future. For this reason, we always recommend consulting an experienced attorney before choosing to file for bankruptcy.

The type of bankruptcy you choose determines how your debt is handled and how long it remains on your credit report. There are three main types of bankruptcy, usually referred to by their chapter in the U.S. Bankruptcy code: Chapter 7, Chapter 13, or Chapter 11 bankruptcy.

Chapter 7 bankruptcy

Chapter 7 bankruptcy—also called liquidation bankruptcy—allows you to liquidate your assets to pay back debt and eliminate the remaining debt left over. In this case, secured debts (debts backed by an asset) take precedence over unsecured debts (debts not backed by an asset).

Some assets are exempt from liquidation:

• Your car
• Tools of your trade
• Household goods
• Pension plans
• Equity in your home

The Chapter 7 bankruptcy process is relatively straightforward:

1. Consult a bankruptcy attorney to understand the process and determine the best route forward.
2. Collect documentation on your assets, liabilities, income, expenditures, and other relevant financial information.
3. Attend a credit counseling course from an approved credit counseling agency 180 days before filing.
4. File a petition with the bankruptcy court and submit the documents you collected.
5. Pay the court a $245 case filing fee, a $75 miscellaneous administrative fee, and a $15 trustee surcharge.
6. Receive an impartial trustee who will sell your assets and pay creditors.
7. Meet with your creditors to discuss your petition.
8. Liquidate your non-exempt assets and distribute the proceeds to your creditors.
9. Discharge your remaining unsecured debt four to six months later (for individuals only, not organizations).

Not everyone is eligible for this type of bankruptcy under federal bankruptcy laws.

Chapter 11 bankruptcy

Chapter 11 bankruptcy—also called reorganization bankruptcy—gives you an opportunity to reorganize your business's finances so you can maintain operations while you create a plan to repay creditors. Chapter 11 offers organizations that don't qualify for other bankruptcy filings a legal debt-relief option.

Here's an overview of the Chapter 11 bankruptcy process:

1. Consult a bankruptcy attorney to understand the process and determine the best route forward.
2. Collect documentation on your assets, liabilities, income, expenditures, and other relevant financial information.
3. Attend a credit counseling course from an approved credit counseling agency 180 days before filing.
4. File a petition with the bankruptcy court in your area and submit the documents you collected.
5. Pay the court $1738 in filling fees at once or over time in installments.
6. Meet with creditors to discuss your financial status and plans.
7. File a plan of reorganization and disclosure statement that details your finances and how you intend to handle your debts.
8. Implement the plan and eliminate any remaining dischargeable debts (taxes, student loans, child support, and personal injury claims aren't dischargeable).

This option is often best for businesses due to the high cost and commitment. However, individuals who have substantially high debts can also pursue this option.

Chapter 13 bankruptcy

Chapter 13 bankruptcy—also called wage earner’s plan—helps you reorganize your personal debts and draft a repayment plan to reimburse creditors over the course of three to five years. A bankruptcy trustee will collect your payments and distribute them to your creditors during that time.

Here's a quick look at the Chapter 13 bankruptcy process:

1. Consult a bankruptcy lawyer to understand the process and determine the best route forward.
2. Collect documentation on your assets, liabilities, income, expenditures, and other relevant financial information.
3. Attend a credit counseling course from an approved credit counseling agency 180 days before filing.
4. File a petition with your local bankruptcy court and submit the documents you collected.
5. Pay the court a $235 case filing fee and a $75 miscellaneous administrative fee.
6. Receive an impartial trustee who will manage your case.
7. File a plan of reorganization that outlines how much you’ll pay your creditors each month..
8. Meet with creditors to discuss your financial status and plan.
9. Appear at court for a confirmation hearing in which a bankruptcy judge will review your case and provide the final stamp of approval.
10. Make single payments to the trustee over the course of your plan for all debts, including secured loans you’ve paid separately until now.
11. Attend a debtor’s education course that teaches you healthy financial management practices and how to recover from bankruptcy.
12. Discharge remaining debt that's eligible for elimination (taxes, student loans, child support, and personal injury claims aren't dischargeable).

This process is undoubtedly longer and more complex than Chapter 7 bankruptcy. However, it offers individuals an opportunity to retain their assets and still find relief from debt.

What happens when you declare bankruptcy?

Declaring bankruptcy will cause immediate changes as well as long-term effects on your financial outlook.

What is an automatic stay?

An automatic stay is a provision of bankruptcy law that temporarily halts creditors from trying to collect money or seize property during bankruptcy proceedings. This is called an injunction, which refers to a judicial order that stops a person from taking a specific action.

However, it's important to consult with a knowledgeable bankruptcy attorney about your case, as some situations may not have an automatic stay, and others require the debtor to obtain a court order imposing one.

What debts are dischargeable?

As you may have noticed, not all debts are handled the same way under bankruptcy law. Bankruptcy courts can issue a discharge that relieves you of your liability to pay back certain debts. Creditors no longer have a legal claim to discharged debts and can't pursue any legal action to collect those debts from you.

These debts are dischargeable:

• Unsecured and secured loans
• Credit card bills
• Medical bills
• Debts transferred to collection accounts
• Debts related to your business
• Personal loans
• Private loans
• Overdue utility payments
• Overdue rent

The court will typically discharge Chapter 7 bankruptcy debts about four months after the date you filed the petition with the clerk of the bankruptcy court. For Chapter 13 and individual Chapter 11 bankruptcy cases, courts will discharge eligible debts soon after the debtor completes all payments under the plan. However, some loans aren't dischargeable through bankruptcy.

What happens to my credit if I file?

Credit is essentially an agreement between a lender and a borrower that the borrower will pay back the money lent. When you file for bankruptcy, you're stating that you can't fulfill your promise to pay back the loans you borrowed. For that reason, filing for bankruptcy severely impacts your credit.

The duration that bankruptcy stays on your credit history depends on which type of bankruptcy you file. Both Chapter 7 and Chapter 11 bankruptcy can stay on your credit report for up to 10 years. Chapter 13 bankruptcy stays on your credit report for up to seven years. 

Depending on where your credit score started, you can lose somewhere between 130 to 240 points. The damage to your credit will hinder your ability to get approved for a personal bank loan, credit card, or mortgage in the near future. If you do get approved, your interest rates may be significantly higher. However, time and effort can get your score back in shape.

Will I lose my house, car, and property if I file?

The short answer is no. Bankruptcy law recognizes the importance of a fresh start. Bankruptcy exemptions exist to protect that fresh start and ensure you have a foundation to build from. Exemptions are essentially an amount of equity that you're allowed to keep on your vital property so as to not lose it to a liquidation or lien. That amount varies by state.

If the amount of the exemption in your state is more than the value of the property, you can claim it as exempt property that can't be liquidated when you file for bankruptcy. If the exemption amount is less than the value of the property, you can't claim it as exempt. The type of bankruptcy you file determines the next steps for nonexempt property.

Under Chapter 7 bankruptcy, your trustee will liquidate your nonexempt property, but you may be able to retain some of the profit. For example, if your state's car exemption is $7,500 and your car is worth $10,000, you may have to sell your car, but you'll get $7,500 from the sale.

Under Chapter 13 bankruptcy, you can keep your property, but the value of your nonexempt property is added to your income and determines how much you'll pay to your creditors monthly. The more property you can claim as exempt, the less money you'll have to pay to your creditors.

Will bankruptcy affect my employment?

If you're already employed, bankruptcy can't legally impact your current employment. Employers can't fire you solely because you filed for bankruptcy or use it as a reason to change any terms or conditions of your employment.

If you're looking for employment, bankruptcy may impact your future prospects. Private corporations may conduct a credit check during the application process, which can reveal that you've filed for bankruptcy. While not every employer will take this into consideration during the hiring process, industries dealing with finances might.

Pros and cons of filing for bankruptcy

There are a number of advantages and disadvantages of filing for bankruptcy. Every case is different and requires a curated approach. When you’re deciding what’s best for your situation, consider meeting with a bankruptcy lawyer to talk through your case.

Pros

• Debt relief. Bankruptcy can either reduce or completely eliminate your outstanding debts.
• Financial planning tools. Bankruptcy proceedings often involve courses that teach you valuable methods for building and maintaining financial health.
• Automatic stay. Filing for bankruptcy can stop creditors from taking action to collect debts.
• Stopping foreclosure and repossession. Chapter 13 bankruptcy allows you to keep assets—such as your home—and repay outstanding debts through a court-approved payment plan.
• Chance to rebuild credit. While bankruptcy initially harms your credit score, it also provides a clean slate to start rebuilding.
• Mental and emotional relief. Many who file for bankruptcy experience significant mental and emotional relief once they file and can now rebuild a healthier financial foundation.

Cons

• Financial and credit impact. While filing for bankruptcy relieves debts, the impact on your credit can affect other areas of your financial life.
• Public record. Filing for bankruptcy is a matter of public record that future employers and loaners can access.
• Loss of property and assets. In a Chapter 7 bankruptcy, you might have to liquidate some assets that are not protected by exemptions to pay creditors.
• Limited eligibility. Not everyone qualifies for bankruptcy. Additionally, the type of bankruptcy you can file depends on your eligibility.
• Effect on co-signers. If you have debts that are co-signed, filing for bankruptcy does not protect your co-signers. Creditors can still seek payment from them unless they also file for bankruptcy protection.

FAQs

For more information on what happens when you file for bankruptcy, read the answers to these common questions.

Is bankruptcy worth it?

Bankruptcy isn’t the right choice for everyone, but it's definitely worth it for individuals with overwhelming debt. It may feel scary to make such a big decision, but the right bankruptcy option can help make an unmanageable situation significantly more manageable, and the consequences aren’t permanent. However, it’s important to consult an attorney first before deciding whether or not to file. 

What should I do to prepare for filing for bankruptcy? 

Before filing for bankruptcy, it’s critical that you know your options. We strongly recommend that you collect all of your relevant financial information and consult with an experienced attorney who can advise you on the best course of action for you. 

How long does the bankruptcy process take?

The length of bankruptcy proceedings depends on the type of bankruptcy you file. Chapter 7 bankruptcy can take around four to six months, while Chapter 11 and 13 bankruptcy can take several years. 

What is the cost to file for bankruptcy? 

Bankruptcy costs can start at $1,000 and go up $15,000 in some cases, depending on how you file, the type of bankruptcy you choose, and attorney fees. For a more detailed look, refer to our in-depth article on the cost of bankruptcy. 

Can I file for bankruptcy more than once?

Yes, you can file for bankruptcy more than once, but you'll typically have to wait a specific several years between filings.