The Different Types of Bankruptcy
Understanding Bankruptcy: Part 4 of 7
Sunday, April 28, 2013
U.S. federal law provides for six different types of bankruptcy, of which three are the most common: Chapter 7, Chapter 11, and Chapter 13.
Before we discuss the details, I’d like to explain why we use such odd names. In order to do so, I need to digress for a moment to explain how U.S. federal laws are organized. (Actually, you may find this interesting in its own right.)
The sheer number of federal laws is so large as to defy understanding. Not only are countless laws already on the books, but there are many changes every year. In fact, every time Congress passes, modifies, or repeals a law, someone has to keep track of the changes. This job is so important that there exists an entire government department devoted to this task. This organization is the “Office of the Law Revision Counsel of the U.S. House of Representatives” (usually referred to as the “LRC”).
The job of the LRC is to compile and publish all “general and permanent” U.S. federal laws. It does so by organizing and consolidating the text of all the laws into a huge compilation called “The Code of Laws of the United States of America,” commonly known as “United States Code” or, more simply, the “U.S. Code.”
As you would imagine, the U.S. Code in its entirety is large and complex beyond comprehension. Nevertheless, it does need to be organized, and it has been since 1926. The current version of the U.S. Code is divided into 51 broad subject areas, referred to as “Titles.” (You can visualize a Title as being a volume of an encyclopedia.) Each Title, in turn, is subdivided into “Chapters,” which themselves are divided into even smaller units.
The part of the U.S. Code that contains the bankruptcy laws is Title 11. Within Title 11, there are nine different Chapters. The first three Chapters of Title 11 describe the rules of bankruptcy:
Chapter 1: General Provisions
Chapter 3: Case Administration
Chapter 5: Creditors, the Debtor, and the Estate
The next six Chapters describe, in detail, the different types of bankruptcy:
Chapter 7: Liquidation
Chapter 9: Adjustment of Debts of a Municipality
Chapter 11: Reorganization
Chapter 12: Adjustment of Debts of a Family Farmer or Fisherman With Regular Annual Income
Chapter 13: Adjustment of Debts of an Individual With Regular Income
Chapter 15: Ancillary and Other Cross-Border Cases
As we will discuss in a moment, the most commonly used types of bankruptcy are:
— For individuals: Chapter 7 or Chapter 13
— For companies: Chapter 7 or Chapter 11
Other, less common types of bankruptcy, which we won’t discuss, are:
— For municipalities: Chapter 9
— For family farmers or fishermen: Chapter 7 or Chapter 12
— For a foreign bankruptcy: Chapter 15
Now, you will notice that, in the list above, Chapters 2, 4, 6, 8, 10, 14 are missing. Why? Because when a law becomes obsolete or is repealed, the LRC deletes it from the U.S. Code. However, to avoid confusion, the LRC does not change any of the existing numbers. Thus, at one time, Title 11 of the U.S. Code did indeed contain the six missing chapters, which have since been deleted.
The nomenclature of the U.S. Code is important because, when we talk about bankruptcy in the United States, we use the Chapter number to refer to the specific type of bankruptcy. Thus, you might hear someone say:
“I lost my job when the company I was working for liquidated by filing for Chapter 7 bankruptcy.”
In fact, these nicknames are so well known that you will notice that the word “bankruptcy” is often omitted. For example:
“My brother-in-law used Chapter 13 to reorganize his finances and reduce his debts.”
The same naming convention holds for other, more unusual types of bankruptcy, for example:
“The two largest U.S. municipalities to use Chapter 9 to restructure their debts were Jefferson County, Alabama, in 2011 and Orange County, California, in 1994.”
In the next column, we will discuss in more detail what happens in the two most common types of bankruptcy: liquidation (Chapter 7) and reorganization (Chapter 11 and Chapter 13).
Author’s Note: “Understanding Bankruptcy” is a series of seven columns to help you understand our modern bankruptcy system and how it works. I suggest that you start with the first column and read them in order, if you have not already done so. As a reference aid, I have created a comprehensive glossary of bankruptcy-related terms. You can find it in the “Money and Economics” section of my website.