For many, even savvy investors and entrepreneurs, the word bankruptcy strikes fear right into their heart. Nightmarish visions of rooms being emptied of furniture, accounts being drained of every last cent, or disappointed lines of debtors armed with pitchforks are perfectly understandable.
Others recognize that making the decision to file bankruptcy avoids the worst-case scenario, particularly when it comes to corporate interests.
But not every bankruptcy option is best or even available for each situation. An experienced bankruptcy lawyer can review your unique situation and help you determine your best option for recovering from financial uncertainty, whether from natural disaster, COVID-19, or simply the changing tides of industry.
If you or your business has ended up with more debt than you can reasonably afford to pay off, read on to learn more about the differences between filing bankruptcy using Chapter 11 and filing bankruptcy using Chapter 13, and see which might be best for you.
What is Chapter 11 bankruptcy?
Chapter 11 bankruptcy is generally used by corporations, sole proprietors, or partnerships. By filing for Chapter 11, entities are able to reorganize their debt. By doing so, they can keep their business running and generating revenue as well as pay back creditors over a period of time.
Because of the typical size of the debts and the complexity of the reorganization, a typical Chapter 11 bankruptcy takes between three and five years to complete for a small business.
What is Chapter 13 bankruptcy?
Chapter 13 bankruptcy is a form of personal bankruptcy that allows an individual to discharge some debt and readjust remaining debt, up to a certain amount, into a single monthly payment. Payments are made to a debt administrator through a court-supervised repayment plan.
Like Chapter 11, it generally takes about three to five years to pay off. If the debtor defaults during this time, they lose their bankruptcy protections, and creditors can sue.
How are Chapter 11 and Chapter 13 similar and different?
Once you understand the general framework of each of the types of bankruptcy, it becomes a little easier to decide which might be best for you.
Both Chapter 11 and Chapter 13 require:
- The individual filing for bankruptcy to be a resident of the U.S., have a domicile in the U.S., or hold business or assets in the U.S.
- The individual filing to have a valid SSN or tax ID number — however, you do not need to be a citizen
- The individual — but not corporate entities — to complete credit counseling within 180 days of filing
- No minimum amount of debt
- A filing fee that may be paid in installments
- The filing individual or entity not to have a recent bankruptcy filing dismissed due to a failure to appear or voluntarily dismissal
The primary difference between Chapter 13 and Chapter 11 is that:
- Chapter 11 is used by businesses to help them reorganize their debts and repay creditors while continuing their operations.
- Chapter 13 discharges individuals’ debt through a monthly repayment plan that lasts three to five years.
Businesses cannot file for Chapter 13 bankruptcy, but individuals have a choice between the two. Other crucial differences between Chapter 11 and Chapter 13 are:
- Reorganization (Chapter 11) vs. adjustment (Chapter 13) of debt
- The maximum debt cap for Chapter 13 is $1,081,400 of secured debt and $360,475 of unsecured debt
- The requirement of a regular, stable income for Chapter 13, which will be used to pay off the reorganized debt over the next few years
- The eligibility of corporate entities and railroads to file for Chapter 11
When should I choose to file for Chapter 11 bankruptcy?
As the most expensive and complex of all bankruptcy filing types, Chapter 11 is rarely used by individuals unless they are too deeply in debt to file Chapter 13 but want to avoid the liquidation of Chapter 7.
Chapter 11 allows a business entity to continue to engage in business, which is a long-term solution to financial woes that may have been caused by drastic but temporary circumstances. Other benefits of filing Chapter 11 bankruptcy include:
- Automatic stays. This process stops foreclosures, lawsuits, repossessions, wage garnishments, and other debt collection measures while the reorganization gets underway.
- Involuntary transfer avoidance and recoveries. Remember, bankruptcy is not a sign of defeat; it is a measure of protection. In some cases, the debtor may even recover previously involuntary transferred debts and assets.
- Temporary deferral of obligations. Under some reorganization plans, the debtor may be able to temporarily stop making certain payments, such as installment debt.
- High-interest adjustments. Not uncommonly, debt balloons because of high-interest rate loans. Under Chapter 11, some interest rates can be adjusted to more manageable rates.
- Free and clear asset sales. The court has the authority to allow buyers to purchase a debtor’s assets without taking on any liens or other encumbrances.
Many high-profile Chapter 11 proceedings — such as GM’s nearly $31 million debt crisis — have resulted in turnarounds that would have otherwise meant liquidation and devastation for the company and its employees.
When should I choose to file for Chapter 13 bankruptcy?
Individuals who are considering bankruptcy generally consider bankruptcy to be the end of their debts. Once they get to this point, they often have become frustrated or hopeless, and they may think that filing for Chapter 7 bankruptcy will just wipe the slate clean.
Not so fast, says the court.
Call it a nod to creditors or perhaps even a protective measure for the individuals themselves, but many times the court will only consider liquidation bankruptcy in the most extreme circumstances.
Still, it is important to consider why you would want Chapter 13 as your alternative — particularly because it offers some debt discharges that other forms of bankruptcy do not, like:
- Tax bill debt. Did you pay an older tax obligation using a credit card? Luckily, Chapter 13 can discharge that debt, leaving you clear of both the tax debt and the credit card payment.
- Property settlement. If, for example, you were ordered to pay a joint debt in your divorce decree, a Chapter 13 discharge can wipe away both the debt to the creditor and to your former spouse.
Discharges aside, Chapter 13 allows debtors to regain financial control of their lives without needing to completely uproot their lives or even lifestyle.
Chapter 13 requires individuals who file to have a regular income greater than their reasonable living expenses with which they can pay their adjusted debt. This means it is an ideal option for those who have the means to remain financially stable but have found themselves saddled with debt.
By filing a Chapter 13, individuals have the ability to:
- Hold on to assets. This includes family heirlooms, property, and vacation property.
- Receive an automatic stay. This prevents foreclosure, interest accrual, wage garnishment, and other aggressive debt collection methods.
- Reduce IRS obligations. Some taxes, though not all, might be able to be discharged or, at the very least, reduced.
The decision to file for bankruptcy should not be made lightly. Speaking with an experienced bankruptcy attorney who can provide you the information you need to make the best decision for yourself can provide some clarity.
Ready to get started? Contact Farmer Law today!