An Introduction to Bankruptcy Law

Bankruptcy can sound like a confusing and scary process. It is often associated with individuals or corporations being in debt and not being able to pay their financial obligations. This can make people feel uncomfortable and some might choose to not learn more about bankruptcy because they doubt it would ever happen to them. However, bankruptcy is an intricate and unique area of the law that gives second chances when entities need them the most. Read more from EMWN, your Lexington KY lawyers, to discover the basics about bankruptcy laws!

The History of Bankruptcy

Bankruptcy is a legal process that assists debtors in paying, reducing, and eliminating their financial obligations. The introduction of bankruptcy laws has been around the United States since 1787, when the Bankruptcy Clause (Article I, Section 8, Clause 4) of the Constitution authorized Congress to establish bankruptcy laws around the country. Before then, bankruptcy was considered an imprisonable crime. Now, the government wants to help those who are bankrupt so that they can get back to paying taxes, making purchases, and contributing to our economy.

In modern times, bankruptcy cases are governed by the U.S. Bankruptcy Code, which was enacted by Congress in 1978. Bankruptcy is almost totally governed by this federal code and can only be filed in federal court, not state court, as federal bankruptcy courts have exclusive subject matter jurisdiction. Typically, bankruptcy matters are filed in bankruptcy court, and in Kentucky, there are only two bankruptcy courts–one in Lexington and one in Louisville. Many bankruptcy matters are administrative and can be handled away from the court. 

How Does Bankruptcy Work?

Most bankruptcy primarily deals with restructuring debt in order to help people get a fresh start. In a 1934 decision, the United States Supreme Court noted that bankruptcy laws aim to help give honest debtors a new opportunity in life and a clear field for the future without the pressure and discouragement of preexisting debt. Local Loan Co. v. Hunt, 292 U.S. 234, 244 (1934). 

Bankruptcy can be filed by individuals, businesses, or other entities. If you are looking for bankruptcy lawyer Lexington KY residents trust, there are several types that EMWN Law handles:

Individuals

Typically, when an individual person, couple, or sole proprietorship is filing for bankruptcy, they have two possible routes that have different requirements. Chapter 7 and Chapter 13 bankruptcies are most often filed by individuals who are unable to pay back their debts, and after successfully completing their bankruptcy, these debts will be discharged.

Examples of consumer debts that may be discharged are unpaid credit card bills, medical bills, unpaid rent and utility bills, and personal loans. However, there are several designated non-dischargeable debts including: taxes, student loans, child support and alimony, and fines owed to government agencies or courts, among others. Congress determined for public policy reasons that these debts should not be dischargeable. 

Chapter 7 and Chapter 13 bankruptcies differ most heavily in the way that they handle debt: Chapter 7 bankruptcy focuses on the liquidation of assets, or selling your assets in order to pay back your creditors, while Chapter 13 bankruptcy includes reorganization of your payment plans. 

To qualify for Chapter 7 bankruptcy, an individual must show that they are in financial need–typically by demonstrating that their monthly income is less than the median for their community. If this is not the case, they may take a means test that compares their expenses and income to the median value of their community. However, if they fail this test too, their filing has a presumption of abuse, meaning they must pursue Chapter 13 or show the court special circumstances to be able to continue under Chapter 7.

Once qualified, an appointed  trustee will take over the assets of the debtor’s estate and sell them, then use the proceeds to distribute to and repay creditors. However, there are several assets which are protected by exemptions, meaning that if the value of your asset minus what you owe on it is less than a state or federal limit, then the asset cannot be sold by your trustee. This often applies to homes, vehicles, personal belongings, and retirement accounts or public benefits.

Exemptions rewards those who have paid off their assets and protects those items from being liquidated. Businesses operating as sole proprietorships may also file Chapter 7 bankruptcy and qualify for exemptions just as an individual would. It is strongly recommended to hire a bankruptcy lawyer when encountering Chapter 7 bankruptcy to ensure compliance with paperwork and rules. 

Chapter 13 bankruptcy is designed for individual debtors with a regular source of income, and requires an income sufficient to cover monthly payments in order to qualify. Chapter 13 allows the debtor to keep their valuable assets and instead propose a plan to pay off the debt through the trustee, based on their anticipated income over the life of the plan. The debtor and their appointed trustee will create a 3-5 year repayment plan to its creditors offering parts of its future income to pay the debt.

The plan must be structured in order to fully repay priority debts, which include child support and alimony, federal tax obligations, and criminal fines, because they are considered so important that they must be paid off first.Throughout the life of the plan, the debtor is protected from lawsuits and other creditor actions. Hiring a bankruptcy lawyer with EMWN Law can help you to draft your repayment plan and ensure that you are following the complex procedures correctly. 

Businesses

There are several reasons that a business might declare bankruptcy, but oftentimes the business is simply not making enough cash flow to pay its bills and loans. If a business is declaring bankruptcy, a bankruptcy lawyer can advise you of two options: Chapter 7 and Chapter 11. Chapter 7 bankruptcy for businesses is very similar to the process for individuals, and is usually opted for by businesses with little to no chance of recovery. On the other hand, Chapter 11 bankruptcy is structured as a reorganization and is designed for businesses with a strong chance of recovery. 

Similar to individuals, a business entity that cannot pay its debts must qualify for Chapter 7 by demonstrating it is in financial need and that its liabilities are greater than the value of its assets. When a business files Chapter 7 bankruptcy, it will cease to operate and its assets will be sold by the trustee to use the proceeds to pay back creditors.

For unincorporated businesses that operate as a partnership, if liquidation of the business’s assets do not fully pay off the debts, the general partners’ personal assets and properties can be used by the creditors to satisfy remaining obligations.

However, it is important to note that partnerships, corporations, and LLCs are not eligible to receive exemptions like individuals and sole proprietorships are. Chapter 7 bankruptcy is very suitable for businesses that have a lot of debt and are looking to close down their business while simultaneously paying off their debt. 

When a business is in debt but wants to continue operating and recover from its financial obligations, filing Chapter 11 bankruptcy, entitled Reorganization, is often a preferred option. Under Chapter 11, the debtor will typically file a plan of reorganization to pay creditors over time to the court and to its creditors which is ultimately approved or denied by the court.

The debtor will go through a period of consolidation and reorganization and continue to operate and control the business, allowing it to come out with less debt. The plan typically lets the debtor repay part of its debts and discharge others, and also allows the debtor to terminate burdensome contracts and leases. The debtor is also able to rescale its business operations so that it can return to making a profit.

A debtor that is still operating and controlling its business to increase the value of the assets and properties and reduce debts while in Chapter 11 bankruptcy is called a “debtor in possession.” Chapter 11 bankruptcy is a popular option for large corporations because they are able to continue running their business while reducing their debts, but can be expensive for small businesses who are already in debt. 

Speak With a Bankruptcy Lawyer in Lexington, KY

When searching for reputable Lexington KY lawyers, finding the right bankruptcy lawyer is an important step if encountering financial debt that may require filing for bankruptcy.

At EMWN Law, attorney Kent Barber specializes in consumer and corporate bankruptcy and has over 15 years of experience in complex financial transactions. 

Contact Kent and EMWN Law for additional information about bankruptcy!

Disclaimer

This article is for informational purposes only and does not constitute legal advice. Reading or relying on this post does not create an attorney-client relationship. For tailored guidance, please contact Embry Merritt Womack Nance, PLLC at (859) 543-0453.