What is Bankruptcy
Bankruptcy is a federal legal process that allows individuals or businesses overwhelmed by debt to either eliminate or restructure what they owe under the protection and oversight of a federal court.
Bankruptcy is a federal legal process that provides relief to individuals and businesses that are unable to repay their debts. When someone files for bankruptcy, an automatic stay immediately halts most collection actions — creditors must stop calling, lawsuits are paused, and wage garnishments stop — while the court oversees a structured resolution of the debtor's finances.
Bankruptcy law in the United States is governed by Title 11 of the U.S. Code and is handled exclusively in federal bankruptcy courts.
The Main Types of Bankruptcy
Each type of bankruptcy is named after the chapter of the bankruptcy code that governs it.
Chapter 7 — Liquidation Bankruptcy
The most common form for individuals. A court-appointed trustee reviews your assets, liquidates any non-exempt property, and uses the proceeds to pay creditors. Most remaining unsecured debt (credit cards, medical bills, personal loans) is then discharged — legally eliminated.
- Eligibility: Must pass the means test (income must be below state median or pass a detailed income/expense analysis)
- Timeline: Typically completed in 3–6 months
- Credit impact: Stays on credit report for 10 years
Chapter 13 — Reorganization (Wage Earner's Plan)
Allows individuals with regular income to repay debts over 3–5 years through a court-approved repayment plan, rather than liquidating assets. You keep your property (including your home) in exchange for committing a portion of your income to the plan.
- Eligibility: Must have regular income; unsecured debt under ~$465,000; secured debt under ~$1.4 million
- Timeline: 3–5 years to complete
- Credit impact: Stays on credit report for 7 years
Chapter 11 — Business Reorganization
Primarily used by businesses (though very high-debt individuals can use it) to restructure operations and debts while continuing to operate. Chapter 11 allows a company to negotiate new debt terms with creditors while remaining open for business.
Chapter 12 — Family Farmers and Fishermen
Specialized bankruptcy for family farmers and commercial fishermen with regular income, similar to Chapter 13 in structure.
What Bankruptcy Does and Does Not Discharge
Debts typically discharged in Chapter 7:
- Credit card debt
- Medical bills
- Personal loans
- Utility bills
Debts that CANNOT be discharged:
- Federal student loans (except in rare hardship cases)
- Child support and alimony
- Most tax debts
- Debts from fraud or intentional wrongdoing
- Criminal fines
The Automatic Stay
One of the most immediate benefits of filing bankruptcy is the automatic stay — an injunction that instantly stops most debt collection activities the moment the petition is filed. This includes:
- Foreclosures (temporarily halted)
- Repossessions
- Wage garnishment
- Creditor harassment and lawsuits
- Utility shutoffs (for a limited period)
Bankruptcy and Power of Attorney
If you're considering bankruptcy, it's worth having your advance directives in order. A power of attorney ensures someone you trust can manage financial and legal decisions on your behalf if you become incapacitated during a complex financial process.
Bankruptcy and Your Credit Score
Filing for bankruptcy has a significant long-term impact on your credit score. Chapter 7 remains on your credit report for 10 years; Chapter 13 for 7 years. During that time, qualifying for a mortgage or other major loan can be difficult — lenders typically require a waiting period of 2–4 years post-discharge before approving conventional home loans. Once the bankruptcy has been discharged, rebuilding credit through secured credit cards and consistent on-time payments is the standard path forward.
Getting Legal Help
Bankruptcy is one area of law where professional guidance is strongly recommended — especially for Chapter 13 filings, which involve complex repayment plans. Rocket Lawyer offers access to bankruptcy attorneys and legal document preparation at an accessible price point for those considering their options.