This is an overview of what will change with the sweeping changes recently made by Congress to bankruptcy laws. For the most part, the new laws affect Chapter 7 and Chapter 13 bankruptcy proceedings. The bill has exceptions for victims of Hurricane Katrina (extending the time for the changes to take effect for affected people). Below is a list of the changes most likely to impact individuals, even though how the law will be interpreted by judges and bankruptcy trustees has yet to be seen.
Effect on eligibility. Formerly, the debtor in question could choose between Chapter 7 and Chapter 13 bankruptcy. Chapter 7 is the more lenient form that requires less payback from the debtor to creditors. Only those with mostly consumer debts were subject to scrutiny for Chapter 7, requiring them to switch to Chapter 13 if they have enough disposable income to pay some of their debts back.
Now, under the new laws, a means test is applied before the debtor can even consider Chapter 7 (before the debtor could file Chapter 7 and convert to Chapter 13 if necessary). This makes it more difficult to initiate bankruptcy proceedings. Income during the previous six months is used to determine whether the person is below the amount necessary to apply for Chapter 7. Current income is not considered, so if someone recently lost a job, that does not figure into the person’s ability to repay some of the debt. If it is possible for the debtor to repay $6,000 or more to unsecured creditors over five years, there is no choice but to file Chapter 13.
Filing barriers. Previously, anyone could file. If the court did not find that the person was eligible, the case was simply dismissed. This resulted in widely available counsel on the legal end, at good prices, as competition drove down costs.
Now, however, debtors are required to get credit counseling from an approved counselor prior to filing bankruptcy. Additionally, tax returns must be filed within weeks of the case’s beginning (assuming you are allowed to file). Lawyers will now be held accountable and sanctioned if their debtor clients are not eligible for Chapter 7, or the case fails (creditors and their lawyers face no sanctions). Legal fees are already going up in light of these changes.
Discharging debts and automatic stay. Before, Chapter 7 debts discharged prohibited recent taxes, student loans, and family support. Also, dishonest debts were not allowed for discharge by bankruptcy. Chapter 13 encompassed more debts (a sort of “super discharge”) in exchange for a partial repayment plan. Additionally, the filing provided immediate protection, meaning that creditors could no longer collect until the case was finished without taking legal action and receiving permission from the bankruptcy court.
The new laws add to the list of debts not dischargeable, and it also makes it more difficult to add debts to the list of dischargeable debts. Additionally, where Chapter 13 used to allow the discharge of taxes when the taxing authority did not file a timely claim, this is no longer the case. Taxes under Chapter 13 are virtually un-dischargeable additionally, there is no automatic stay. The immediate protection of the debtor is not sure, and landlords can now evict tenant-debtors, even if they are paying rent now.