Bankruptcy refers to a process that provides debtors with legal reprieve from their creditors. When a person or corporation files for bankruptcy, the legal system steps in and protects it/he/she from its/his/her creditors by relieving the debtors of most of their debts (Socrates Media, 2006). To protect the creditors, the court may also sanction the liquidation of some of the debtor’s property to pay off some of the debts (Socrates Media, 2006). In the United States, the 1978 Bankruptcy Code governs all cases relating to bankruptcy. The three most common forms of bankruptcy are chapters 7, 11 and 13. Individuals and sole owners of businesses normally use chapters 7 and 13, while larger companies and firms can file for bankruptcy under chapter 11 (Socrates Media, 2006).

            In the bankruptcy code, chapter 7 (liquidation) refers to a process through which a court assigns a trustee to take control of a debtor’s assets who liquidates them to settle the individual’s debts (United States Courts, n.d.). Certain conditions dictate this process such as the individual’s right to retain some property and the rights of the creditors. Normally, most of the individual’s property is exempted from liquidation, and this allows the court to issue that person with a discharge from certain debts. However, if the debtor’s income surpasses a certain threshold, they do not qualify for the relief that chapter 7 offers. Individuals, corporations, partnerships and business entities of a similar nature can file for bankruptcy under chapter 7 (United States Courts, n.d.). 

            In chapter 11 (reorganization), business entities file for a form of court protection that rearranges their operation in a way that allows them to function while repaying their creditors (United States Courts, n.d.). After filing for chapter 11 bankruptcy, the debtor provides a plan indicating how their reorganization will work. The court may approve or disapprove of the plan. Normally, the plan sees the debtors get rid of certain burdens, while repaying some debts and discharging others with the intention of remaining profitable (United States Courts, n.d.).

            Chapter 13 protects individual debtors with regular sources of income. This chapter is preferable for individuals because it allows them to protect valuable assets such as their homes and gives them a chance to develop a structured payment plan that may last three to five years (United States Courts, n.d.). Depending on whether it meets the requirements of the bankruptcy code, a court may choose to approve or disapprove the debtor’s payment plan. In chapter 13, there is no immediate debt discharge or liquidation. Once the debtor has come up with the payment plan, the court allows them to retain their assets while paying off their debts. Until the plan is completed, discharge is not received (United States Courts, n.d.).

            There are many reasons why people file for bankruptcy. The most common ones are medical bills, unemployment and divorce (Todorova, 2009). Unexpected medical emergencies can result in lengthy admissions, which then lead to large bills that many households cannot settle. People also file for bankruptcy so that the legal system can protect them in the event of unemployment. Doing so can help them avoid foreclosures and repossessions for missed payments. Lastly, individuals may also file for bankruptcy to seek protection from large payments incurred through divorce such as alimony and child support (Todorova, 2009).

            Filing for bankruptcy normally has negative effects on an entity when it comes to interest rates on loans and credit cards. According to Mathur (2011), a firm or individual that has filed for bankruptcy finds it difficult to obtain loans at reasonable interest rates. Businesses that have filed for bankruptcy are twenty-four percent more likely to be denied loans and are charged interest rates a point higher than other firms are (Mathur, 2011). Additionally, once an entity has filed for bankruptcy, the status remains listed on the credit report for the next decade. This subjects them to stiffer penalties on missed payments along with higher interest rates on both loans and credit cards (Mathur, 2011).  


Mathur, A. (2011, April). Beyond bankruptcy: Does the bankruptcy code provide a fresh start to entrepreneurs? Retrieved from

Socrates Media. (2006). Bankruptcy: An action plan for renewal. Chicago, Ill: Socrates Media.

Todorova, Z. K. (2009). Money and households in a capitalist economy: A gendered post Keynesian-Institutional analysis. Cheltenham, UK: Edward Elgar.

United States Courts (n.d.). Bankruptcy. Retrieved from

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