Concepts in Bankruptcy

Liquidation v. Rehabilitation

Liquidation or rehabilitation is a central distinction in bankruptcy law. Rehabilitation is based on Chapter 13 of the bankruptcy code while liquidation is based on Chapter 7. Rehabilitation means that the court has judged thinks that you can repay your debts if your finances and assets are restructured. Liquidation means that your finances are, in essence, hopeless and that some of your assets must be sold off to pay the debts.

There are some assets that, in general, cannot be liquidated. Most states exempt such necessities of life as a home or car. Retirement investments are also exempt. You have to claim exempt property as such. Thus it is a good idea to read your state's laws on the matter since these exemptions generally go on a state-by-state basis.

When you file for bankruptcy, your main creditors create a committee. Among your creditors, some will be more privileged than others, meaning that they need to be paid first. In general, those needing to be paid first are government agencies for tax debt, unpaid wages, spousal or child support.

Fiduciary is an adjective that usually modifies the noun "duty" or "duties." It means that the bankruptcy contract is sealed by a duty far higher than the normal duty of one person to another. In bankruptcy law, a "fiduciary duty" means that the debtor owes a higher standard of carefulness, loyalty and transparency to his major creditors than to others, including co-workers, other investors or bosses.

When creditors form a committee, the court then appoints an agent who serves as both the court and the creditor's spokesman in meetings with the debtor. This trustee has a fiduciary duty toward the creditors. The trustee is also the liaison between the debtor and the court. The basic job of the trustee is to make recommendations to creditors and the court concerning the basic assets, future liabilities and attitude of the debtor.

The means test is a more recent addition to the bankruptcy code. It is designed to remove those applicants for bankruptcy who have the means to pay their debts. This is a complex process in which all the assets and sources of income --- real and potential --- are submitted to the court. The means test can result in a dismissal of the case on the grounds that the person filing has the required assets and income to pay his debts. This is a method to weed out claims that are based on self-interest rather than true financial emergency.