Chapter 7 vs. Chapter 13 Bankruptcy: A Primer

Most often the people that come to me for help in bankruptcy do not initially know the difference between Chapter 7 and Chapter 13 bankruptcy, which Chapter may be better for them or even which form of bankruptcy protection they qualify for.

The similarities between these two Chapters are fairly straightforward: both are forms of consumer bankruptcy protection that can discharge debts such as credit cards, medical liabilities, home mortgage deficiencies, personal guarantees and even taxes. Both Chapter 7 and Chapter 13 require that a petition and schedules be filed with the U.S. Bankruptcy Court for the District of Minnesota, listing all assets, creditors and certain financial information for the last two years. Both require one mandatory appearance with a bankruptcy trustee at what’s called the “341 Meeting of Creditors”. Both Chapter 7 and Chapter 13 bankruptcy  are eligible for a discharge of some or all of the debtor’s debts.

The differences are distinct and some of the forms of protection afforded under each Chapter need to be understood. Chapter 7 is what’s called a “straightforward” or “liquidation” bankruptcy: once filed, your assets are reviewed to see if you have non-exempt assets which need to be turned over to the trustee, and within three months a discharge of the debts is ordered. Chapter 7 has income qualifications under the “means test”, in that you generally must be around or below the median income for the state of Minnesota in order to qualify. As of May 1, 2012, the median income in Minnesota for one person is $47,618 or $63,101 for a household of two, $74,050 for a family of three, $86,910 for a household of four, and so on. If your gross household income is above this threshold, you are generally steered toward Chapter 13 bankruptcy instead.

Chapter 13 is distinctly different than Chapter 13 in that it requires a monthly payment of three to five years to be made to the Chapter 13 trustee under a Chapter 13 plan. After the successful completion of all monthly payments made under the Chapter 13 plan, the debtor is then discharged of any remaining debt. Unlike most Chapter 7 cases where creditors usually receive zero money, Chapter 13 affords most creditors some fractional repayment of the total amount owed. Determining the monthly Chapter 13 payment is something that your bankruptcy attorney will need to help determine using Minnesota standard allowances and some actual expenses, such as mortgage and car payments, domestic support obligations and other monthly liabilities that are not necessarily discharged in bankruptcy.

Most recently, homeowners have been taking more advantage of Chapter 13 bankruptcy to strip a second or even third mortgage on their homes. This is relatively new law in Minnesota and as of the date of this post is still pending on appeal in the 8th Circuit. Nevertheless, most other states recognize second mortgage stripping and Minnesota is following that trend. Your bankruptcy lawyer can help determine when a mortgage may be strippable in Chapter 13 bankruptcy.

In order to understand what form of bankruptcy protection is right for you and what you want to achieve long-term, you should consult a bankruptcy attorney for assistance that is specific to your situation. Wartchow Law Office is an exclusive bankruptcy practice offering free consultations to analyze your circumstances and offer practical guidance on your options in both Chapter 7 and Chapter 13 bankruptcy and even on-bankruptcy alternatives.

Located in Edina, Minnesota, Lynn Wartchow represents clients in all Chapters of bankruptcy in Minneapolis, St. Paul, Ramsey and Hennepin County, and throughout
Minnesota.

The Role of the “Trustee” in Chapter 11

Unlike under other Chapters of the Bankruptcy Code, Chapter 11 is unique in that there is no initial appointment of a trustee. In contrast, an independent trustee is appointed in a Chapter 7 business bankruptcy to manage the business operations if the business is still operational and effectuate an orderly liquidation. However in Chapter 11 where the intent of the bankruptcy proceeding is to reorganize, having an independent trustee manage the business operations is often expensive, unnecessary and even counterproductive to the reorganization process. After all, the principals of a business are usually the best suited to run their own business and continuity of current management typically minimizes overhead costs, best maintains vendor and client relationships and operates the business in its most efficient manner. The appointment of a trustee in a Chapter 11 case can be akin to a death sentence if the trustee appointed decides to unseat the current management or principals and/or to convert the business to Chapter 7 liquidation.

While somewhat uncommon here in Minnesota, a Chapter 11 bankruptcy trustee or examiner can be appointed under specific circumstances, usually when the principals of a Chapter 11 debtor have utterly mismanaged the debtor’s finances and business. The appointment of a trustee or examiner in a Chapter 11 business reorganization must be made by request of a party in interest—usually that party is the attorney for the United States trustee—and must be based on one of the grounds recognized under the Bankruptcy Code, including for fraud, dishonesty, incompetence, or gross mismanagement of the affairs of the debtor by current management, either before or after the commencement of the case. Appointment of a trustee in a Chapter 11 case is an extraordinary consequence and generally should be avoided. The best plan to avoid the appointment of a trustee in Chapter 11 is to follow the rules and procedure, read and observe the Operating Guidelines and Reporting Requirements of the U.S. Trustee (as well as follow all Reporting and Other Requirements in Chapter 11), and always ask your Chapter 11 attorney before doing anything that may be outside the ordinary course of business.

Lynn Wartchow is a Minnesota Chapter 11 attorney advising business clients on their options and Chapter 11 solutions to keep a business operating and improve future prospects. Located in Edina, Minnesota, Wartchow Law Office represents clients throughout Minneapolis, St. Paul and surrounding areas in Minnesota.

When Will I Owe a “Deficiency” after Foreclosure in Minnesota? It Depends.

Under some circumstances after foreclosure, a deficiency may still be owed on a foreclosed property. A deficiency or “deficiency judgment” is obtained by some lenders (a.k.a. “mortgagees”) after a foreclosure on real estate where the sales price of the property does not cover the balance due on the mortgage plus related any fees and costs. The amount of the deficiency is usually the difference between the total amount due on the note including expenses and costs and the amount received from the foreclosure sale (or the fair market value of the mortgaged property if the property is agricultural).

Typically under the Minnesota Anti-Deficiency Statute (Minn. Stat. 582.30), a homeowner is protected from owing a deficiency on the first mortgage on foreclosed homestead real estate. This protection only applies to certain, although common, circumstances where the property is the owner’s home and the foreclosure process was conducted as a foreclosure by advertisement. If the property is not homestead, or otherwise if the owner moves out of the property or the property is foreclosed by action, Minnesota’s statutory protection against a deficiency may not apply.

Indications that no deficiency may be owed on a foreclosed home:

  • Property is classified as a homestead property
  • The home’s value is more than what was owed on the mortgage (i.e., the home had equity)
  • Foreclosure was conducted as a “foreclosure by advertisement”
  • Mortgage in question was the first mortgage
  • Home was not abandoned before the foreclosure process was complete
  • A discharge was received in prior bankruptcy and no refinance or reaffirmation of the mortgage has occurred since

Indications that a deficiency may be owed on a foreclosed home:

  • The property was non-homestead property, i.e. rental, agricultural or commercial property
  • The amount due on the mortgage exceeds the value or sales price of the property (i.e., no equity exists in the property)
  • Mortgage in question was the second or third mortgage (i.e., any mortgage other than first priority lien)
  • Foreclosure was conducted as a “foreclosure by action”
  • Instead of foreclosure, the property was short sold, surrendered or transferred back to the lender by a deed in lieu

A discharge in Chapter 7, Chapter 13 (or Chapter 11) bankruptcy relieves a debtor from owing a deficiency on a foreclosed mortgage in most instances. In order to understand your rights and the potential liability for deficiency that you may face, you should contact an attorney to review the real estate property and foreclosure process applicable to you.

Lynn Wartchow is the founding attorney of Wartchow Law Office located in Edina, MN and represents individual consumer and business bankruptcy clients in the Minneapolis / St. Paul and greater Twin Cities metro area in Chapter 7, Chapter 13 and Chapter 11 bankruptcy proceedings filed in the Bankruptcy Court for the District of Minnesota. Wartchow Law Office also represents consumer debtors in bankruptcy proceedings filed in the Western District of Wisconsin.

Defined: The Bankruptcy “Trustee” and the “United States Trustee”

The terms “trustee” and “United States Trustee” sound similar and often encompass similar objectives, however the role of the trustee in bankruptcy proceeding is distinctly different than that of the United States Trustee.

The “United States Trustee” (also called the U.S. Trustee or “UST”) is essentially a federal office within the U.S. Department of Justice that oversees the administration of all bankruptcy cases in a certain district. Here in the district of Minnesota as in other districts, the office of the U.S. Trustee employs a group of staff attorneys, financial analysts and other professionals all charged with the responsibility to promote the efficiency and protect the integrity of the federal bankruptcy system. The Office of the US Trustee does not always directly engage in consumer Chapter 7 and Chapter 13 bankruptcy proceedings, however does monitor each case to determine whether legal action needs to be taken in order to enforce the requirements of the Bankruptcy Code and to prevent fraud or abuse. The UST often reviews petition and schedules filed with the Court to determine whether fraud exists or if an audit must be conducted to uncover more information. However in the majority of consumer Chapter 7 and Chapter 13 bankruptcy cases, the individual debtors will never hear from the United States Trustee or be subject to its action. In Chapter 11 cases, the Office of the US Trustee becomes a principal player in monitoring the business reorganization proceeding.

In contrast, the “trustee” (also called a “panel trustee” or a “standing trustee” in Chapter 13 cases) is often a private attorney charged with the responsibility to administer a bankruptcy, hold the meeting of creditors, and distribute any non-exempt assets to creditors. A bankruptcy trustee is appointed to every individual’s Chapter 7 or Chapter 13 consumer bankruptcy case. In the District of Minnesota, there are approximately 25 such attorneys that serve as Chapter 7 and Chapter 13 trustees. Unlike the US Trustee whose main objective is to ensure the integrity of the bankruptcy process, the role of the Chapter 7 trustee is to collect any non-exempt assets of the debtor, liquidates those assets, and then distribute the proceeds to creditors. In Chapter 13, the trustee additionally evaluates the debtor’s financial affairs, makes recommendations to the Court with regard to the Chapter 13 plan and ultimately administers a the Chapter 13 plan by collecting payments from the debtor and disbursing the funds to creditors. In Chapter 11, no trustee is initially appointed and the debtor effectively operates as its own trustee, i.e., the “debtor in possession”.

Lynn Wartchow is the founding attorney of Wartchow Law Office located in Edina, Minnesota and representing consumer and business clients in Chapter 7, Chapter 13 and Chapter 11 bankruptcy proceedings throughout the Minneapolis and St. Paul and surrounding areas.