Bankruptcy: How It Works, Chapter 7 vs. Chapter 13, and Costs

Bankruptcy is a federal court process that either wipes out qualifying debts or restructures them into a court-supervised repayment plan, and understanding how bankruptcy works starts with what filing the petition actually does: it replaces every separate collection effort against you with a single case governed by Title 11 of the United States Code.¹ From that moment, a court-appointed trustee takes over administration of your financial estate, creditors have to stop calling, and the case moves toward one of two outcomes: your debts are erased in exchange for non-exempt property, or they are folded into a multi-year plan you fund out of future income.²

The system has two goals running side by side. It gives an honest debtor a genuine fresh start, and it ensures creditors receive as fair a share as possible from whatever the debtor can afford to pay.¹ Which of the two individual paths you take depends mostly on your income and what you own.

The Two Paths Most People Take

For individuals, the choice is between Chapter 7 and Chapter 13.

Chapter 7: Liquidation and Discharge

Chapter 7 is what most people picture. A trustee gathers any property that isn’t protected by an exemption, sells it, and distributes the proceeds to creditors. In return, the court discharges most of your remaining unsecured debts, meaning you are no longer legally obligated to pay them.¹ The whole process typically wraps up within a few months.

The discharge is the point of the case. Once the court grants it, creditors are permanently barred from trying to collect the discharged debts. The court can refuse to grant a discharge if the debtor hid assets, destroyed financial records, committed fraud during the case, or already received a Chapter 7 discharge within the previous eight years.³

In practice, most individual Chapter 7 cases are “no-asset” cases. Everything the debtor owns is either fully protected by exemptions or has too little value to justify liquidation. The trustee files a report of no distribution, creditors receive nothing, and the debtor walks away with debts eliminated and property intact.

Chapter 13: A Repayment Plan You Keep Property Through

Chapter 13 works differently. Instead of liquidating property, you propose a plan and make monthly payments to a trustee, who distributes the money to your creditors over three to five years.⁴ At the end of the plan, remaining qualifying debts are discharged.⁵

Plan length depends on income. If your household income falls below your state’s median for a household your size, the plan can be as short as three years. If your income is at or above the median, the plan runs up to five years.⁶

Chapter 13 is especially useful when you’re behind on a mortgage or car loan. The plan lets you catch up on missed payments over time while keeping the property, something Chapter 7 can’t do.⁴ You also keep all your property regardless of its value, as long as the plan is funded adequately. For anyone with significant home equity, a steady paycheck, and the discipline to make payments for years, Chapter 13 is often the better fit.

What Happens the Moment You File

Filing the petition triggers an immediate legal order called the automatic stay. From that instant, creditors must stop virtually all collection activity. Lawsuits pause, wage garnishments halt, bank levies are released, and foreclosures and repossessions are frozen.⁷ No creditor needs to be individually notified for the stay to take effect. It operates automatically the moment the petition hits the court’s system.

For someone facing a foreclosure sale next week or a bank account frozen by a judgment creditor, the stay is the single most powerful piece of immediate relief bankruptcy offers. A creditor who knowingly violates it faces real consequences: the debtor can recover actual damages, attorney’s fees, and costs, and in egregious cases the court can add punitive damages.⁷

The stay has limits. It does not stop criminal proceedings, child support or alimony collection, paternity or custody actions, or certain tax audits.⁷ Government agencies can still enforce police and regulatory powers, and a state can still withhold a driver’s or professional license over unpaid support obligations.

Who Qualifies for Chapter 7

You can’t simply choose Chapter 7. Federal law requires individuals with primarily consumer debts to pass a means test before the court will allow the filing.⁸ The test steers people who can afford to repay some portion of their debts toward Chapter 13 instead.

The first step compares your average monthly income over the past six months against the median family income for a household your size in your state. The U.S. Trustee Program publishes the median figures based on Census data.⁹ If your income falls below the median, you pass and Chapter 7 stays open without further scrutiny.

If your income is above the median, the test moves to a second calculation. The court subtracts certain allowed expenses from your income to determine your monthly disposable income, then multiplies by 60. Depending on where that number lands against statutory thresholds and your total unsecured debt, Chapter 7 either remains available or is presumed abusive.⁸ Certain filers are exempt from the means test entirely, including disabled veterans whose debts were primarily incurred during active duty.

What You Get to Keep

Exemptions are the rules that determine which property is off-limits to the trustee. Every state has its own set of exemption laws, and some states also let filers choose federal exemptions instead. The exemption system is what makes most Chapter 7 cases no-asset cases: if everything you own fits within the exemption limits, the trustee has nothing to sell.

Federal exemptions, available in states that permit them, protect specific categories of property up to set dollar amounts, adjusted every three years.¹⁰ The main categories cover equity in a primary residence, one motor vehicle, household goods and personal items, a wildcard that can protect cash or anything else not covered elsewhere, and retirement benefits including Social Security and pensions, which are fully protected.

Many states offer significantly higher exemptions than the federal set, particularly for home equity. Texas and Florida allow unlimited homestead exemptions under state law. Researching your state’s specific exemption schedule is one of the most consequential steps in deciding whether Chapter 7 works for you.

What Bankruptcy Doesn’t Erase

Bankruptcy doesn’t wipe out everything, and this is where people get blindsided. Federal law lists specific categories of debt that cannot be discharged:¹¹

Child support and alimony obligations, which are never dischargeable.
Recent income tax debts, taxes where no return was filed, and taxes involving fraud.
Student loans, unless you separately prove to the court that repayment would impose an “undue hardship,” a standard most courts interpret very strictly.
Money obtained through false pretenses, fraudulent written statements, or embezzlement.
Debts arising from willful and malicious injury to another person or their property.
Criminal fines, restitution orders, and most government-imposed penalties.
Debts for death or personal injury caused by driving under the influence.

Some of these are automatic. Tax debts and student loans survive without the creditor doing anything. For fraud and intentional-harm claims, the creditor typically has to file a separate lawsuit within the bankruptcy case, called an adversary proceeding, to establish that the debt qualifies as nondischargeable.

Chapter 13 discharges a slightly broader set of debts than Chapter 7. Some obligations that survive Chapter 7, like certain property settlement debts from divorce, can be discharged through a completed Chapter 13 plan.⁵

What the Law Requires You to Do

Before Filing: Credit Counseling

Before you can file, you must complete a credit counseling session with a nonprofit agency approved by the U.S. Trustee’s office. The session must occur within 180 days before you file the petition. Phone and internet sessions count. The agency reviews your finances and discusses alternatives to bankruptcy, and you receive a certificate that must be filed with your petition. Limited exceptions apply for people with disabilities, those on active military duty in a combat zone, and situations where no approved agency can provide timely services in your district.¹²

With the Petition: Full Financial Disclosure

Along with the petition, you must submit a detailed set of financial disclosures: a list of all creditors, a schedule of every asset and liability, a statement of your income and expenses, copies of pay stubs from the previous 60 days, and a statement of any anticipated income changes over the next year.¹³ Incomplete or inaccurate filings can delay or derail your case.

After Filing: The Financial Management Course

After filing but before receiving a discharge, you must complete a separate financial management course, sometimes called debtor education. This is a different requirement from the pre-filing credit counseling, and both are mandatory. Fees for the counseling and education courses typically run between $35 and $100 each.

The Meeting of Creditors

Within a reasonable time after filing, the U.S. Trustee schedules a meeting of creditors, commonly called the “341 meeting” after the statute that requires it.¹⁴ Despite the name, creditors rarely show up. The meeting is primarily between you and the trustee, who asks questions under oath about your finances, your assets, and the accuracy of your paperwork. The judge does not attend. For straightforward consumer cases, the whole meeting often takes less than ten minutes.

What It Costs

The court filing fee for a Chapter 7 case is $338, which includes the base filing fee, an administrative fee, and a trustee surcharge. Chapter 13 filing costs $313. Courts can allow individuals who cannot afford the fee to pay in installments, and in Chapter 7 the court may waive the fee entirely for filers whose income is below 150 percent of the federal poverty line.

Attorney fees are separate and usually larger. Costs vary by region and complexity, but a straightforward Chapter 7 generally runs between $1,200 and $2,500 in attorney fees, while Chapter 13 tends to range from $2,500 to $6,000 or more because of the ongoing plan administration. In Chapter 13, attorney fees are often folded into the repayment plan, so you don’t need the full amount upfront. Filing without an attorney, called filing pro se, is legal but risky, particularly in Chapter 13 where the plan must satisfy detailed statutory requirements.

What It Does to Your Credit

A bankruptcy filing appears on your credit report for up to ten years from the date the court enters the order for relief.¹⁵ In practice, the three major credit bureaus remove Chapter 13 cases after seven years, though the statute permits reporting for the full ten. The impact on your score is severe at first and gradually diminishes.

By the time most people seriously consider bankruptcy, their credit is already damaged from missed payments, collections, and judgments. Bankruptcy replaces that rolling damage with a single event that has a defined endpoint. Many filers qualify for secured credit cards within months of their discharge and conventional credit within two to three years, provided they handle their finances carefully afterward.

Other Chapters for Other Situations

Chapter 7 and Chapter 13 cover the vast majority of individual filings, but the Bankruptcy Code includes other chapters for specific situations. Chapter 11 allows businesses to reorganize their debts while continuing to operate, and a streamlined version called Subchapter V targets small businesses with lower costs and faster timelines. Some individuals whose debts exceed Chapter 13 limits also use Chapter 11. Chapter 12 serves family farmers and fishermen with regular annual income, offering a repayment structure similar to Chapter 13 but tailored to the seasonal nature of agricultural work.¹⁶

1
United States Courts. Chapter 7 – Bankruptcy Basics
2
United States Courts. Bankruptcy Basics
3
Office of the Law Revision Counsel. 11 USC 727 – Discharge
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United States Courts. Chapter 13 – Bankruptcy Basics
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Office of the Law Revision Counsel. 11 USC 1328 – Discharge
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Office of the Law Revision Counsel. 11 USC 1322 – Contents of Plan
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Office of the Law Revision Counsel. 11 USC 362 – Automatic Stay
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Office of the Law Revision Counsel. 11 USC 707 – Dismissal of a Case or Conversion
9
U.S. Department of Justice. Means Testing
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Office of the Law Revision Counsel. 11 USC 522 – Exemptions
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Office of the Law Revision Counsel. 11 USC 523 – Exceptions to Discharge
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Office of the Law Revision Counsel. 11 USC 109 – Who May Be a Debtor
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Office of the Law Revision Counsel. 11 USC 521 – Debtor’s Duties
14
Office of the Law Revision Counsel. 11 USC 341 – Meetings of Creditors and Equity Security Holders
15
Office of the Law Revision Counsel. 15 USC 1681c – Requirements Relating to Information Contained in Consumer Reports
16
Legal Information Institute. 11 USC – Bankruptcy