Consumer bankruptcy and how it treats secured and unsecured loans

Californians contemplating bankruptcy may want to know the process of discharging debts, what properties the debtor can keep after bankruptcy, and the difference between secured and unsecured debts.

Chapter 7 bankruptcy and exempted property

In Chapter 7 bankruptcy, also called liquidation bankruptcy, a trustee sells most of the debtor's property to pay creditors. Chapter 7 bankruptcy is completed within months and discharges most of the debts. The debtor can keep some property after bankruptcy.

Property that can be retained is called exempt property. Exempt property includes a motor vehicle up to a certain value, a part of equity in the debtor's house, necessary clothing, household goods, furnishings, appliances, pensions and public benefits such as unemployment compensation. If the debtor files a joint bankruptcy petition with a spouse, the exemption can double, meaning that the filers can keep more property after bankruptcy.

Process of discharge in Chapter 7 bankruptcy

The process of Chapter 7 bankruptcy can be very simple. The debtor is to attend a creditor meeting conducted by a trustee. The meeting can take as little as five minutes, and creditors may attend, though most creditors do not come. About 60 days after attending this meeting, the debtor will receive a notice of discharge in the mail.

Discharge in Chapter 13 bankruptcy

In Chapter 13 bankruptcy, known as reorganization bankruptcy, the court coordinates a repayment plan. The debtor still pays toward most of the debts under a repayment schedule. The debtor forwards the payment to a trustee instead of creditors. This type of bankruptcy can take three to five years to complete. At completion, the rest of the debts are discharged. Unlike Chapter 7, Chapter 13 does not involve the sale of the debtor's property, so the debtor can often keep the property.

Bankruptcy and liens

While bankruptcy can provide considerable debt relief, neither type of bankruptcy automatically removes liens on secured loans. A secured loan is a debt in which property is put up as collateral. For example, to secure a home loan, a mortgage bank puts a lien on the house. Similarly, a car dealer has a lien on a car purchased with a loan. A creditor who has a lien on property has the legal right to seize the property if the debtor fails to comply with the terms of the loan. Bankruptcy must satisfy secured creditors by surrendering the property or paying them in full.

Unsecured loans do not give the creditor an interest in the borrower's property. Most credit card loans are unsecured. However, a lien can still be created. When an unsecured creditor sues the borrower and obtains a judgment against the borrower, the sheriff can seize the borrower's property. The unsecured creditor then gets an involuntary lien on the seized property, and the unsecured debt becomes secured debt.

Although liens on secured debt may persist through bankruptcy, bankruptcy can actually remove some liens. Persons considering bankruptcy can learn more about exemption rules, liens and other issues that come up in bankruptcy from a caring bankruptcy attorney. An attorney will explain the complexities of bankruptcy in a nonjudgmental way. Bankruptcy may be the best choice when debt has become overwhelming.