On April 20 of this year, President Bush signed a bankruptcy reform law. When this law went into effect in October it made it much more difficult for Americans to use Chapter 7 bankruptcy to get a fresh start on their financial lives.
Under the old law, you could choose to file either a Chapter 7 or Chapter 13 Bankruptcy. In a Chapter 7 proceeding, you are allowed to keep your exempt property, such as much of the equity in your home. Most of your other debts, such as money owed on credit cards, are discharged.
In comparison, a Chapter 13 Bankruptcy is a reorganization bankruptcy. In this type of proceeding you agree to pay off your debts over a period of three to five years.
The result of the new law is that fewer people will be able to file for Chapter 7 Bankruptcies and will be forced to file for Chapter 13 Bankruptcies, instead.
Possibly the biggest change to bankruptcy law is that there will now be a qualifying test. Under this two-part test, you will first be required to apply a formula that exempts certain expenses such as food, rent, etc., to see if you can afford to pay 25 percent of your “non-priority unsecured debt” (credit cards, medical bills and the like). Second, your income will be compared to your state’s median income.
If your income is above your state’s median income, and if you can afford to pay 25 percent of your unsecured debt, you will not be allowed to file for a Chapter 7 Bankruptcy.
You may be able to file for a Chapter 7 Bankruptcy if your income falls below your state’s median income but you can pay 25 percent of your unsecured debt. However, if the court believes you would be abusing the system by filing a Chapter 7, you can be required to file for a Chapter 13 Bankruptcy, instead.
If you filed a Chapter 7 Bankruptcy under the old law, the court would determine what you can afford to pay based on what you and the court determines are reasonable and necessary living expenses.
Under the new law, the court is required to apply living standards that are derived by the Internal Revenue Service to determine what is reasonable to pay for rent, food, etc., and how much you should then have left over to pay your debts. The IRS regulations are more stringent and if you want to contest them, you will need to ask for a hearing in front of the bankruptcy judge. This can easily mean more time and expense.
When you declared bankruptcy under the old law, your state might have allowed you to keep all or much of the equity you have in your home. However, the new law places tougher restrictions on this exemption. So before you file, be sure to discuss this with a knowledgeable bankruptcy attorney so that you will know exactly how much of your home’s equity you can expect to protect.
Here’s another tough restriction. Under the new bankruptcy law, you must meet with a credit counselor in the six months before you apply for bankruptcy. However, from what I have read, many of the "certified" counselors are totally backed up and cannot handle any new cases.
You must also attend money management courses – at your expense – before your debts are discharged.
Before you do anything, make sure you talk to a good bankruptcy attorney.
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