The Primary Risks of Filing Chapter 7 Bankruptcy and How to Avoid them

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Currently, the volume of bankruptcy filings in Southern California has significantly decreased.  This gives both the judges, trustees, and trustee’s attorneys additional time to scrutinize every bankruptcy filing.  Moreover, due to the decrease in filings and correlating decrease in cases that pay them money, Chapter 7 Trustee’s and Chapter 7 Trustee’s attorneys always seem to be coming up with new methods of generating assets out of a case that appears to have none.  

A Chapter 7 Trustee’s primary goal is to locate assets that can be sold to pay your creditors.  The Chapter 7 Trustee’s compensation is generally based on how much is repaid to your creditors.  In almost every case where there are assets to administer, the Chapter 7 Trustee will hire an attorney.  The Trustee’s attorney will bill the Chapter 7 Estate for the attorneys’ fees it incurs and if there is money in the estate to pay fees, the attorney will spend most if not all of that money chasing other potential assets in the case.  

With this backdrop in mind, here are several risks I see to filing a Chapter 7 Bankruptcy:

1. Potential Loss of Your Home:

If you own a home, you need to be aware that in an appreciating real estate market, a Trustee may sell your home even when you initially believed or were told by your attorney that your house was safe.  A common tactic used by Trustees is to continue your 341(a) and see if the home prices rise.  Once you are in a Chapter 7, it can be very difficult to dismiss the case.  This is especially true if the  Chapter 7 Trustee believes your house can be sold to pay your creditors.

One option you may have is conversion to a Chapter 13 case, but this requires that you have regular income and can make monthly payments for 3 to 5 years.  In addition, Chapter 7 Trustee’s have increasingly opposed conversions.  If you already received a discharge of your debts, some courts have held that it is bad faith to convert to a Chapter 13 and will refuse to convert the case.

Another option you may have if the Chapter 7 Trustee takes interest in selling your home is to purchase the estate’s equity interest in the home.  This can be difficult for most filers because any deal with the Chapter 7 Trustee will likely require a short term repayment option or lump sum.  Depending on the amount of equity in your home you may be able to get a loan on your home to payoff the Chapter 7 Trustee.  However, since you are already in bankruptcy, your interest rate on the loan will be high or you may not be able to qualify for a loan.

2. Potential Denial of Discharge/Bankruptcy Crime

While potential loss of your home may be the largest risk you face, there is also the chance of having your discharge denied.  The discharge is the main reason you file Chapter 7, after you receive a discharge you generally do not have to repay your creditors.  A right to a discharge is not absolute.  If your discharge is denied, you can never discharge the creditors in a subsequent bankruptcy.  False statements  in your bankruptcy paperwork can also lead to criminal penalties and imprisonment.

A discharge can be denied for a variety of reasons.  One of the most common reasons I have seen courts use to deny a person’s discharge is the intentional and fraudulent failure to disclose assets or income. The entire bankruptcy system depends on honest and complete disclosure of your finances.  When a Trustee, creditor, or court learns of a lack of honesty or an omission in your paperwork, your right to obtain a discharge could be in jeopardy.  Even if your failure to disclose assets was unintentional, the Court or Trustee may not believe you and still seek to deny your discharge.

An experienced attorney will ask you the right questions and make sure that your disclosures are complete.  In addition to having an experienced attorney helping you with the process, you need to review your bankruptcy documents prior to signing them to make sure everything you have told your attorney was put in the paperwork.

3.  Potential Loss of Other Assets Due to Improper Exemptions

Exemptions are provided under California State Law to preserve certain property from creditors and in bankruptcy from being liquidated by your Chapter 7 Trustee.  Exemptions have limitations both in amount and their applicability to different assets.   You need a competent attorney familiar with the different types of exemptions or you risk other assets being sold by the Chapter 7 Trustee

How to Avoid the Primary Risks Associated with Chapter 7?

If you are going to file a Chapter 7 and especially if you own a home, you need competent legal counsel before you file your case.  In addition, competent legal counsel will tell you if any of the above risks are present in your case.  If any of the above risks are applicable to you, you have non-bankruptcy options and the option of filing a Chapter 13 bankruptcy instead.  A Chapter 13 bankruptcy in general is easier to dismiss in the event you do not wish to continue in the case.  In addition, a Chapter 13 bankruptcy will not generally result in the liquidation of any of your assets.