How does bankruptcy work?


Quick Answer

Bankruptcy is a legal process that enables an overly burdened debtor to obtain relief through a judicially supervised liquidation or reorganization of assets that is conducted for the benefit of the creditors. There are two main objectives of the United States bankruptcy laws. The first is to protect the rights of creditors so that lenders are not fearful of extending credit, and the second objective is to protect the rights of debtors so that they can have an opportunity to resume their lives or business affairs if they become overburdened.

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Full Answer

With regard to creditors, U.S. bankruptcy laws specify how a debtor's assets can be divided and allocated to pay off debts when bankruptcy is filed. This part of the law also establishes a payment hierarchy that determines who gets paid first in the case of a debtor with several creditors. The intent is to help ensure that creditors will continue to lend money by giving them the confidence that their rights will be protected.

U.S. bankruptcy laws protect debtors by establishing guidelines by which creditors can collect debts. The laws determine what constitutes due process and what represents unscrupulous practices or harsh terms. The debtor is also given an opportunity to not remain financially crippled and to instead work his or her way back to financial stability.

Different sets of bankruptcy laws may apply depending upon the circumstances and who is filing. Chapter 7 is a process of liquidating assets completely to pay off debts and is often used by a business earmarked for termination. Chapter 11 is a reorganization of debts by a business or individual that is capable of remaining in a financially viable state provided that payment schedules are rearranged accordingly. Chapter 13 is a straightforward process for individuals seeking bankruptcy protection.

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