Home : Bad Credit 101 : Bankruptcy : Bankruptcy Reform: Big Changes Loom on the Chapter 13 Horizon

If You decided to file Chapter 13, what happens?

Many consumers often feel like they are drowning in debt. These desperate consumers are sometimes stretched so financially thin that bankruptcy seems to be their only escape. And they’re not alone—filing for Chapter 13 bankruptcy has become an increasingly more common trend in recent years.

In 2004, more than 1.6 million people filed for personal bankruptcy in the United States, according to the Administrative Office of the U.S. Courts. That represents a whopping 600 percent increase since 1978, the year Congress relaxed bankruptcy policies. There is much debate over what has caused the number of bankruptcy cases to skyrocket in the past 27 years. Some lawmakers point a finger at credit card companies who use ruthlessly aggressive marketing tactics. Others say the sharp increase is simply the result of debtors abusing the system. Regardless of the cause, an increase in bankruptcy leads to rising consumer-credit interest rates.

“If someone does not pay his or her debts, the rest of society ends up paying them,” many lawmakers complain. To thwart this type of debtor abuse, the federal government passed the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. This 200-page law, most of which will take effect in October 2005, radically changes many aspects of personal bankruptcy filed under both Chapter 7 and Chapter 13 rules.

However, under the new rules, only consumers with an income below their state’s median income or who fall into this category after deducting allowable expenses, will be permitted to file for Chapter 7 bankruptcy. Those who do not fit this description will be forced to file under Chapter 13 rules.

In addition to the new law’s financial ramifications, each consumer who seeks bankruptcy relief will be required to obtain credit counseling and budget analysis from an approved, nonprofit credit counseling agency—before filing their paperwork. Consumers who plan to file for Chapter 13 bankruptcy should take note of the following major changes that will take effect under this new law:

1. Currently, Chapter 13 filers make payments on secured credit items, such as automobiles, for only three years. The amount the consumer still owes after the three-year period is then discharged, in a process called “stripping down.” Under the new rules, the strip down period has increased to five years, thus forcing Chapter 13 filers to pay a larger overall amount on these secured loans.
2. In the past, Chapter 13 filers were required to pay only what their car was worth (“blue book” or fair market value) on their car loans. Under the new law, these consumers must pay the total loan amount, regardless of the car’s condition.
3. Loans for motor vehicles purchased within 910 days of a Chapter 13 filing must be paid in full.
4. Under the new law, the entire remaining balance on a secured loan is to be targeted for pay off, whether or not the loan amount exceeds the value of the collateral.
5. According to the new law, a bankruptcy attorney must certify their Chapter 13 filer’s financial statements to the court, which means that attorney will be held financially responsible if their client’s statements are false. As a result, some say that bankruptcy attorneys will likely charge more to assist consumers in filing for Chapter 13.
6. Currently, under what is called the “automatic stay” ruling, consumers filing for Chapter 13 bankruptcy immediately receive protection against creditors. However, under the new law, the court judge will decide whether or not a filer receives this protection depending on each particular case. In other words, filers will not be certain about the extent of protection they will receive and from which creditors they will be sheltered.
7. The new law allows ex-spouses of Chapter 13 filers to more easily enforce their former spouse’s child support and alimony payments.
8. All Chapter 13 filers must complete a personal finance management course before any debts can be discharged.
9. No Chapter 13 filing will be accepted if the debtor has filed Chapter 7, 11 or 12 within the previous four years.
10. Debtors cannot file for Chapter 13 relief until all tax returns have been filed.
11. The new rules do not permit relief from eviction proceedings commenced prior to the debtor filing for bankruptcy.

Also - under the new law, when a consumer files under Chapter 13, his or her monthly expenses will be measured against the IRS National and Local Standard Expense guidelines. This means there are now stringent rules dictating how much a bankrupt consumer can claim as living expenses. This gives the court power to force Chapter 13 filers to eliminate or significantly trim down their spending on certain unnecessary luxury items, such as high-priced cars, expensive gifts, jewelry, extra-curricular activities for children, elaborate vacations and more.

With the onset of these rigorous new rules, some experts say it will be much more difficult for U.S. citizens to receive financial relief through bankruptcy. However, many lawmakers believe these changes will diminish the threat of consumers abusing bankruptcy practices while helping our country to build a stronger, more efficient system that will allow more Americans greater access to credit.

The real solution for many consumers may be a debt consolidation loan. Debt consolidation loans often reduce a consumers debt level by rolling multiple debts into one single payment. Our network of debt consolidation lenders will work with consumers with low credit scores so you can get the consolidation loan you need to avoid bankruptcy.