What is Bankruptcy and How Does It Work?

How Does Bankruptcy Work?

Bankruptcy is one of the most common scenarios that some people would encounter in their financial journey. While it carries the stigma of being a financial failure, it can actually be an opportunity for a fresh start when all other options have been exhausted. In this blog, we will provide you with a comprehensive guide on what bankruptcy is and how it works.

What is Bankruptcy?

Bankruptcy is a legal process in which an individual or business declares that they are unable to pay their debts. This means that they have reached a point where their income is not enough to cover their expenses, including their debts. Once a person declares bankruptcy, they are provided temporary protection against all creditors.

Types of Bankruptcy

There are two common types of bankruptcies, Chapter 7 and Chapter 13. Chapter 7 bankruptcy is also known as the liquidation bankruptcy, which means that the debtor’s non-exempt assets are liquidated, and the resulting money is used to pay off their creditors. Chapter 13 bankruptcy is the reorganization bankruptcy, which means that the debtor is allowed to keep their assets but have to pay back their debts in installments for three to five years.

What Debts are Dischargeable and Non-Dischargeable in Bankruptcy?

Some debts can be discharged in bankruptcy, including credit card debts, medical bills, and personal loans. However, there are certain debts that are non-dischargeable, such as student loans, taxes, alimony, and child support payments. It’s essential to consult an attorney to provide you with a better understanding of your specific situation.

Who Qualifies for Bankruptcy?

To qualify for bankruptcy, the debtor must pass the means test, which determines if their income is below the state median income. For Chapter 7 bankruptcy, the debtor’s income must be below the limit set by the state. Under Chapter 13 bankruptcy, the debtor must have a steady source of income.

How Does Bankruptcy Affect Credit Scores?

Bankruptcy can significantly affect credit scores, and it can remain on a person’s credit report for up to ten years. However, it’s important to note that the impact can vary depending on the person’s credit history and current situation. It’s also essential to know that filing for bankruptcy does not mean that a person can never rebuild their credit. Some strategies can help them get back on track, such as paying bills on time, keeping their debts low, and applying for secured credit cards.


Declaring bankruptcy can be a challenging decision to make, but it can also be a way out of a financial crisis for those who have no other option. Knowing the basics of bankruptcy, such as the types, debts, qualifications, and credit impact, can help people make better-informed decisions. It’s also essential to seek advice from a qualified attorney who can provide guidance and support throughout the process. Remember, filing for bankruptcy is not a financial failure. It’s an opportunity to start fresh and build a better financial future.

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