Bankruptcy Planning

Written by True Tamplin, BSc, CEPF®

Reviewed by Subject Matter Experts

Updated on May 30, 2023

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What Is Bankruptcy Planning?

Bankruptcy is a legal process that provides individuals or businesses relief from their debts. The purpose of bankruptcy is to help those overwhelmed by financial obligations to eliminate or repay their debts under the protection of the federal bankruptcy court.

Bankruptcy planning is an essential step for individuals or businesses considering filing for bankruptcy.

It involves evaluating one's financial situation, understanding the available bankruptcy options, and strategizing to maximize the benefits while minimizing the negative consequences of filing for bankruptcy.

Understanding the different bankruptcy options and their implications is crucial for making an informed decision. Proper planning can help individuals and businesses navigate the bankruptcy process effectively, protect their assets, and rebuild their financial future.

Types of Bankruptcy

Personal Bankruptcy

Chapter 7

Chapter 7 bankruptcy, also known as "liquidation" or "straight" bankruptcy, allows individuals to discharge most of their unsecured debts, such as credit card bills and medical expenses. In exchange, the debtor may have to sell some of their non-exempt assets to pay off their creditors.

Chapter 13

Chapter 13 bankruptcy, often called a "wage earner's plan," allows individuals with regular income to create a repayment plan to pay back all or part of their debts over a period of three to five years.

Business Bankruptcy

Chapter 11

Chapter 11 bankruptcy is designed for businesses that need to reorganize their debts and restructure their operations while continuing to operate. This type of bankruptcy allows the debtor to negotiate new terms with creditors and implement a plan to repay the debts.

Chapter 12

Chapter 12 bankruptcy provides debt relief to family farmers and fishermen who are experiencing financial distress. This type of bankruptcy allows for a debt repayment plan tailored to the unique needs of these industries.

Comparing Bankruptcy Types

Pre-bankruptcy Planning Steps

Assess Financial Situation

List of Assets and Liabilities

Before considering bankruptcy, individuals and businesses should compile a comprehensive list of their assets and liabilities to evaluate their financial standing.

Monthly Income and Expenses

Analyze monthly income and expenses to determine the feasibility of repaying debts through a repayment plan or if liquidation is necessary.

Credit Report Review

Reviewing one's credit report can help identify any inaccuracies or discrepancies that may affect the bankruptcy process.

Seek Professional Advice

Bankruptcy Attorney

Consulting a bankruptcy attorney can provide valuable insights into the legal process, eligibility, and potential outcomes of filing for bankruptcy.

Financial Advisor

A financial advisor can help assess one's financial situation and recommend alternatives to bankruptcy, if applicable.

Credit Counselor

Credit counseling can offer guidance on managing debts, improving credit, and creating a plan for long-term financial stability.

Explore Alternatives to Bankruptcy

Debt Consolidation

Debt consolidation combines multiple debts into a single loan with a lower interest rate, simplifying repayment and potentially reducing the overall debt burden.

Debt Settlement

Debt settlement involves negotiating with creditors to reduce the amount owed, potentially avoiding bankruptcy.

Credit Counseling

Credit counseling agencies can help create personalized debt management plans, offering an alternative to bankruptcy.

Pre-bankruptcy Planning Steps

Bankruptcy Planning Strategies

Asset Protection

Understanding Exemptions

Bankruptcy exemptions protect certain assets from liquidation during the bankruptcy process. Understanding which assets are exempt and their respective limits can help individuals plan effectively to protect their property.

Legal Methods to Protect Assets

There are legal methods, such as establishing trusts or converting non-exempt assets into exempt assets, to protect one's property during bankruptcy. Consult a bankruptcy attorney to determine the best strategies for asset protection.

Timing Considerations

Impact of Recent Financial Transactions

Recent financial transactions, such as asset transfers or large debt repayments, can impact the bankruptcy process. Understanding the implications of these transactions can help individuals plan the timing of their bankruptcy filing.

Waiting Periods for Discharge Eligibility

There are waiting periods between bankruptcy filings and discharges, which may affect the timing of a new bankruptcy case.

Tax Implications

Timing of Filing

The timing of a bankruptcy filing can impact the dischargeability of tax debts. Consulting with a tax professional is essential to understand these implications.

Tax Debts in Bankruptcy

Certain tax debts, such as income tax debts, can be discharged in bankruptcy, while others may not be eligible for discharge. Understanding the dischargeability of tax debts is crucial for proper planning.

Impact on Credit

Rebuilding Credit Post-bankruptcy

Bankruptcy can have a significant negative impact on one's credit score. Developing a plan for rebuilding credit after bankruptcy is essential for financial recovery.

Obtaining New Credit During and After Bankruptcy

Understanding the challenges of obtaining new credit during and after bankruptcy can help individuals plan for their financial future and set realistic expectations.

Bankruptcy Planning Strategies

Bankruptcy Filing Process

Pre-filing Requirements

Credit Counseling

Before filing for bankruptcy, individuals must complete credit counseling with an approved agency to ensure they understand the implications of bankruptcy and explore potential alternatives.

Means Test

The means test is used to determine eligibility for Chapter 7 bankruptcy by comparing an individual's income and expenses to the state median income and allowed expenses.

Filing the Bankruptcy Petition

Required Forms and Documentation

Bankruptcy petitions require specific forms and documentation, such as schedules detailing assets, liabilities, income, and expenses. Properly completing and submitting these forms is crucial for a successful bankruptcy case.

Court Fees

There are filing fees associated with bankruptcy petitions, which must be paid when submitting the petition to the court.

Role of the Bankruptcy Trustee

The bankruptcy trustee is responsible for overseeing the bankruptcy case, verifying the accuracy of the debtor's petition, and ensuring that creditors are paid to the extent possible under the bankruptcy laws.

Meeting of Creditors

During the meeting of creditors, the debtor must answer questions under oath regarding their financial affairs and bankruptcy petition. Creditors may also ask questions and object to the debtor's discharge, if applicable.

Confirmation and Discharge Process

After the meeting of creditors and completion of all required steps, the bankruptcy court will issue an order confirming the debtor's repayment plan or discharging their debts, marking the end of the bankruptcy process.

Life After Bankruptcy

Financial Recovery Strategies

Budgeting and Financial Planning

Developing and adhering to a budget and financial plan is essential for long-term financial stability after bankruptcy.

Rebuilding Credit

Rebuilding credit after bankruptcy involves responsible use of credit, timely payments, and monitoring one's credit report for inaccuracies.

Long-Term Effects of Bankruptcy

Impact on Future Financial Opportunities

Bankruptcy can have lasting effects on future financial opportunities, such as obtaining loans or credit. Being aware of these potential challenges can help individuals plan for their financial future.

Emotional and Psychological Considerations

The emotional and psychological impact of bankruptcy should not be underestimated. Bankruptcy can cause feelings of shame, guilt, and stress. Seeking support from friends, family, or professional counselors can help alleviate these burdens and promote emotional recovery.

Bottom Line

Bankruptcy planning is a crucial step for individuals and businesses considering filing for bankruptcy.

It involves evaluating one's financial situation, understanding the available bankruptcy options, and strategizing to maximize the benefits while minimizing the negative consequences of filing for bankruptcy.

Understanding the different bankruptcy options and their implications is essential for making an informed decision.

Proper planning can help individuals and businesses navigate the bankruptcy process effectively, protect their assets, and rebuild their financial future. It's important to seek professional advice and explore alternatives to bankruptcy before deciding to file.

Timing considerations, tax implications, and credit rebuilding strategies are also critical factors to consider.

While bankruptcy can have lasting effects on future financial opportunities and emotional well-being, taking the right steps toward financial recovery can help individuals and businesses move forward and achieve long-term financial stability.

Seeking professional advice from bankruptcy attorneys, financial advisors, and credit counselors is crucial for proper bankruptcy planning.

These professionals can provide valuable guidance, recommendations, and support throughout the bankruptcy process, ultimately leading to a more successful outcome.

Bankruptcy Planning FAQs

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website or view his author profiles on Amazon, Nasdaq and Forbes.

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