One of the biggest questions many Americans have when considering bankruptcy is if they can keep their home. The answer depends on many factors unique to your case. However, one of the best ways to protect your home is to opt for Chapter 13 bankruptcy. How does this help? How does it work? And what should you know first? Here are the answers to some of your questions.
What is Chapter 13 Bankruptcy?
Chapter 7, or liquidation, bankruptcy takes a snapshot of your assets and debts on one date. Any eligible assets are sold—or liquidated—to pay eligible creditors, and remaining eligible debts are written off. The case is closed. This process often takes less than a year from start to finish.
Chapter 13, on the other hand, doesn’t include any such forced liquidation. Instead, you assess your own income and assets to determine how much you can repay to creditors over several years. You are in the driver’s seat to come up with an alternate arrangement which best meets the interests of yourself and your creditors. How does this work?
Debtors start by using standard dollar amounts to calculate their living expenses. These are things like housing, utilities, transportation, food, clothing, and health care. These are adjusted in some local areas to account for cost-of-living differences. Then, the debtor adds up mandatory obligations, secured loans they wish to reaffirm, and other priority payments. Finally, the amount left over is the repayment plan for their unsecured debts.
This repayment plan must satisfy several requirements, including that it pays back creditors at least as much as they would have received through liquidation. In addition, the bankruptcy court must approve this plan. Once the plan is approved, payments are made for either three or five years. At that point, remaining eligible debts are discharged and the case is closed.
How Does Chapter 13 Save Your Home?
The first step toward protecting your home in Chapter 13 is the same as in Chapter 7: the automatic stay. This temporary court order halts all collections activity, including any moves by your mortgage lender. It is only for the duration of the bankruptcy and can be waived for specific debts, but it kicks in right away. This buys time for homeowners and others to further negotiate as well as find the best options.
Beyond the stay, the different approach taken by Chapter 13 often prevents foreclosure more effectively than Chapter 7. The biggest difference for many is that you can get caught up on past due payments. You may roll those missed payments and fees into the repayment plan, paying it all back over three to five years. This makes it manageable for many, and it’s an option that Chapter 7 simply does not offer.
Chapter 13 also focuses on your income rather than assets. Consider a homeowner who has a decent amount of equity in their home, but they have few other large assets. They earn regular income, but they still have serious debt from a failed business venture. Chapter 7’s approach is limited to seizing that equity to pay creditors. Chapter 13, though, bypasses the equity in favor of their regular income.
What Are the Downsides to Chapter 13?
As with any bankruptcy decisions, there are some caveats to be aware of.
First, you must realistically decide if you can afford to keep the home in the long term. Just because you can stretch out arrears and get back in good standing may not prevent the same financial issues from cropping up once you exit bankruptcy. The ideal candidate for foreclosure avoidance is someone whose bankruptcy was caused by a life event which is in the past, such as a divorce or medical crisis.
Many debtors also end up paying back more of their debts through Chapter 13 than Chapter 7. This is partially by design. If you voluntarily choose Chapter 13, you generally must repay to creditors at least as much as they would have received through liquidation. The disposable income of high earners will also be relatively high—meaning you could pay significantly more to creditors over time.
Chapter 13 is also not a quick fix for your finances. You will be in active bankruptcy with all its limitations for up to five years, if successful. A lot can change in that time. And while the bankruptcy system allows you to adjust to unexpected financial changes, such as a loss in income, you must be prepared to stay the course for the long haul.
The first step toward saving your home—or deciding on a different route—is to learn more about bankruptcy chapters and their consequences. Siben & Siben LLP can help. We provide a wide range of services, including help with all types of bankruptcy. Call today to make an appointment or get more answers to your questions.