Although bankruptcy is one option to deal with financial problems, it’s generally considered the option of last resort because of its long-term negative impact on your creditworthiness. And the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, designed to curb abusive consumer bankruptcy filings, affects anyone who files for bankruptcy. The law is designed to prevent debtors from abusing the bankruptcy laws – using them to clear debts that they can afford to pay.
Under provisions of the new law, you must meet a pre-approved credit counsellor in your judicial district six months prior of applying bankruptcy. Debtors have to provide evidence to make the case look like theirs are special circumstances, with a crisis beyond control, which has forced you to bankruptcy filing. Moreover, you will be required to attend money management classes at your expense before your debts are discharged.
There are two kinds of personal bankruptcy: Chapter 13 and Chapter 7.
Chapter 13 – reorganization – allows you to keep property, such as a mortgaged house or car, that you otherwise might lose. It allows you to pay off a default in a 3-5 year period rather than surrendering any property.
The court will apply living standards derived by the IRS. You cannot subtract what you actually spend for things like transportation, food, clothing, and so on; instead, you have to use the limits the IRS imposes, which may be lower than the cost of living in your area. The new law is also more stringent about the homestead exemption.
Chapter 7 - straight bankruptcy - involves liquidating all assets that are not exempt in your state. Exempt property may include work-related tools and basic household furnishings. This is frequently the option for people who have few or no assets, often little or no income, and a lot of debt.
What you will be allowed to keep will depend largely on your state laws. Some states allow you to keep all of the equity in your home, while others exempt a certain amount. In some places, individuals may keep their household goods.
While you may able to keep some assets, you also keep some debt. Certain debts, no matter what state you live in, cannot be discharged. It will be now harder to get out from under car loans, overdue taxes, student loans and credit card debt.
The new bankruptcy law restricts the ability of debtors to wipe out their debts under Chapter 7, to file repeated bankruptcy petitions and to select a more favorable jurisdiction for bankruptcy filings. Debtors also need to pass the means test, i.e. when they file, their income must be less than the median income in their state.
The silver lining in the gloom of stringent rules is that retirement and college savings gain protection. If a consumer entering bankruptcy has funds in a retirement plan or an IRA, those funds aren’t included as asset available to creditors. College savings accounts for children are exempt, and debtors are allowed to continue to fund retirement plans, if possible.
