The Bankruptcy Code is divided into chapters. A debtor who is an individual (as opposed to a business entity) typically can make one of two choices for filing bankruptcy; a Chapter 7 "Liquidation" (the traditional bankruptcy) or a Chapter 13 "Adjustment of the Debts of an Individual with Regular Income."
Upon the filing of any bankruptcy petition an automatic stay goes into effect. This is of key importance because the stay forces an immediate halt to repossessions, foreclosures, evictions, garnishments, attachments, utility shut-offs, and debt collection harassment. It offers the debtor a breathing spell during which the debtor and the bankruptcy trustee can review the situation and develop an appropriate plan. Creditors cannot take any further action against the debtor or the property without permission from the bankruptcy court.
- Chapter 7. In a chapter 7 liquidation, the bankruptcy court appoints a trustee to examine the debtor's assets. All the assets will be identified by the trustee and categorized as exempt or nonexempt property. Exempt property, limited to a certain amount of equity in the debtor's residence, motor vehicle, household goods, life insurance, health aids, specified future earnings such as social security benefits and alimony, and certain other personal property, remains the property of the debtor. Nonexempt property becomes subject to the bankruptcy, and the trustee then sells the nonexempt property and distributes the proceeds among the creditors. Although a liquidation can rarely protect a debtor from a secured creditor (the secured creditor still has the right to repossess the collateral), the debtor will be discharged from the legal obligation to pay most unsecured debts such as credit card debts, medical bills and utility arrearages. Even certain types of unsecured debt are allowed special treatment and cannot be discharged. These include some student loans, alimony, child support, criminal fines, and some taxes.
- Chapter 13. In a chapter 13 adjustment of debts, the debtor puts forward a plan, following the rules set forth in the bankruptcy laws, to repay all creditors over a period of time, usually from future income. A chapter 13 adjustment of debts may be advantageous because it allows the debtor to catch up on mortgages or car loans without the threat of foreclosure or repossession and allows the debtor to keep both exempt and nonexempt property. The debtor's plan is a simple document outlining to the bankruptcy court how the debtor proposes to pay current expenses while paying off all the old debt balances. The debtor's property is protected from seizure from creditors, including mortgage and other lien holders, as long as the proposed payments are made. The plan generally requires monthly payments to the bankruptcy trustee over a period of three to five years. Arrangements can be made to have these payments made automatically through payroll deductions.