What Are the Most Common Types of Bankruptcy?
If you’re struggling to pay your debts, then declaring bankruptcy could be the fresh financial start you need.
However, is there more than one type of bankruptcy?
In the United Kingdom, there’s only one type of bankruptcy. Meanwhile, in the United States, there is more than one route to bankruptcy for individuals, businesses and corporations.
To clear things up, the expert team at Irwin Insolvency explains how many types of bankruptcy there are, how bankruptcy in the UK differs from bankruptcy in the US, and what the alternatives are.
How Many Types of Bankruptcy Are There?
Declaring bankruptcy isn’t a decision to be taken lightly, but it can be infinitely more difficult a decision to make if you’re unsure how many types of bankruptcy there are or what your other alternatives might be.
Bankruptcy is a formal legal process, but the first thing to note is that in the United Kingdom, there is only one type of bankruptcy. UK law stipulates that only individuals – not companies – can declare themselves bankrupt.
Due to the influence of US culture in the UK, there is often confusion as to how many types of bankruptcy exist and who can declare themselves bankrupt. In the US, things are different, because multiple forms of bankruptcy exist.
US law allows for three common types of bankruptcy:
- Chapter 7 bankruptcy
- Chapter 11 bankruptcy
- Chapter 13 bankruptcy
Bankruptcy in both countries exists as a way for debt to be cleared. In all cases, it offers the opportunity for a fresh financial start, although with multiple caveats attached.
There are however fundamental differences to consider between declaring bankruptcy in the UK and declaring bankruptcy in the US.
What’s the Difference Between Bankruptcy in the US and Bankruptcy in the UK?
Because of the many misconceptions surrounding bankruptcy, it’s useful to understand the primary differences between bankruptcy in the UK and bankruptcy in the US. This will help you to determine if bankruptcy in your country of residence is the best option for you.
The primary goal of bankruptcy in both countries is to help people in financial trouble. Common features of bankruptcy include stopping creditors from chasing payments, reorganising existing debts, and wiping out certain large debts completely.
The main difference is that in the United Kingdom only individuals can declare themselves bankrupt. Companies in the UK must follow other laws, regulations and procedures if they become insolvent, as they cannot declare bankruptcy. Because bankruptcy can only be applied to individuals, there’s only one type of bankruptcy in the UK.
In the United States, it’s not just individuals who can become bankrupt; businesses and corporations can become bankrupt, too. While Chapter 7 and Chapter 13 bankruptcy are primarily applied to individuals, Chapter 11 bankruptcy exists to allow corporations to declare bankruptcy in the US.
This is where one of the major misconceptions arises from, because business owners in the UK commonly believe that companies can become bankrupt. This simply isn’t true, and UK-based companies in financial trouble need to find alternatives to bankruptcy.
How Does Bankruptcy Work in the UK?
So how does bankruptcy work in the UK? As noted, there’s only one form of bankruptcy in the UK and only individuals can become bankrupt.
There’s no minimum level of debt required in order to declare bankruptcy, and if you’re no longer able to pay your debts, then it’s one of the tools available to help you get your finances back on track. If you’re applying for bankruptcy, applications are processed by the Insolvency Service, which appoints an official receiver to oversee your case and reorganise your debts.
If you owe £5,000 or more, it’s also possible for your creditors to apply for bankruptcy on your behalf. They don’t need your permission to do so, and it’s a way for creditors to pursue their debts once other efforts have been exhausted.
Declaring bankruptcy has positives and negatives attached to it, so always seek impartial insolvency advice if you’re struggling financially.
Here are the primary features of UK bankruptcy:
- Bankruptcy lasts for 12 months
- Major debts are written off after 12 months
- Personal debts, such as student loans or child support, are not written off
- You lose control of your finances and your bank accounts will be closed
- If you have an income, then a percentage of this might have to be paid to your creditors for a set period
- You may lose high-value personal assets such as your home or vehicle
- You may lose your business and any employees may lose their jobs
- Bankruptcy is made public knowledge
- If you’re employed as a lawyer, Member of Parliament or on a board of trustees, then you will lose your job
- It’s impossible to secure credit for 12 months, and bankruptcy then remains on your credit score for a further six years
What Are the Most Common Types of Bankruptcy in the US?
In the US, there are three major types of bankruptcy. The main goal of US bankruptcy is the same as UK bankruptcy, with the aim being to wipe out large debts and provide an opportunity for a fresh financial start in the future.
The major distinction is that individuals have two types of bankruptcy they can apply for if they are no longer able to pay their debts. Both types are similar but result in different consequences that need to be considered.
As mentioned previously, the third type of bankruptcy is reserved for corporations, an option that is not open to UK companies. Let’s take a look at the different types of US bankruptcy in more detail.
Chapter 7 Bankruptcy
Chapter 7 bankruptcy is also known as liquidation bankruptcy, and the process can be applied to either individuals or businesses that have become insolvent.
Chapter 7 bankruptcy only lasts a few months, as the main goal is to quickly liquidate your major assets in order to raise funds to pay your creditors.
You must fall below the median salary threshold in order to qualify, or you’ll otherwise have to take Chapter 13 bankruptcy. You’ll lose your assets, such as your house and car, but you’ll be discharged quickly from bankruptcy and given a fresh financial start.
Chapter 11 Bankruptcy
Chapter 11 bankruptcy is a useful tool that US businesses can use to save themselves from total closure and financial failure. It’s a procedure that goes through the courts.
Company directors place control of all business decisions under the jurisdiction of the court overseeing the bankruptcy, allowing a business to be restructured and reorganised in order to save them.
Chapter 11 bankruptcy can be costly, as companies need to cover court and administration costs. It protects you from creditors though, and gives you an opportunity to streamline the company, and, ultimately, keep the company in business.
In the UK, Chapter 11 bankruptcy doesn’t exist. However, the equivalent insolvency procedure is considered to be administration, whereby a company places control of the decision-making process in the hands of an insolvency practitioner appointed by the courts.
Chapter 13 Bankruptcy
Individuals who don’t qualify for Chapter 7 bankruptcy can instead apply for Chapter 13 bankruptcy – companies, however, cannot apply for Chapter 13 bankruptcy. Chapter 13 bankruptcy is a form of bankruptcy that allows your finances to be reorganised. Debts may be consolidated and repayment plans ordered by the courts.
To qualify for Chapter 13 bankruptcy, your debt must fall below certain levels (the thresholds are high, though). Your finances are looked after by a trustee for a set period of time and you will make repayments based on your income, although you will get to keep high-value assets such as your house or car.
What Are the Alternatives to Bankruptcy in the United Kingdom?
Despite its advantages, bankruptcy is commonly viewed as a last resort by insolvency specialists. That’s because you could lose your home and you’ll struggle to secure credit for several years to come.
While bankruptcy might be the best option if you have high levels of debt that can be written off or very few valuable assets to lose, there are other ways to restore your finances without needing to declare bankruptcy. For individuals, the most common alternatives to bankruptcy include the following.
If you owe less than £5,000, one of the best alternatives to bankruptcy is an administration order.
Administration orders are issued by courts to low-level debtors. They allow your finances to be reorganised, interest rates frozen and new repayment schedules made.
If you only have small levels of debt, an administration order is preferable to bankruptcy. You won’t stand to lose your assets and your credit score won’t be as negatively affected.
Debt consolidation is an effective way to deal with both small and large amounts of debt, and it’s particularly useful if you owe money to multiple creditors.
Debt consolidation plans typically see all of your outstanding debts and loans consolidated into one easier-to-manage loan. Taking out a new loan might sound counteractive to escaping debt, but the new, consolidated loan often has more favourable interest rates and lower monthly repayments.
Individual Voluntary Arrangement
An individual voluntary arrangement, or IVA, is an agreement made between a debtor and their creditor that aims to reorganise payments while still allowing money owed to be paid back.
An IVA might see repayment terms changed, it might allow interest rates to be lowered or the total amount owed to be reconsidered entirely.
Importantly, an IVA allows you to buy more time to restructure your finances, avoiding the need to declare bankruptcy. If an IVA fails, the only next step left for an individual in debt is likely to be bankruptcy.
Alternatives for Companies in the United Kingdom
In the UK, companies that can no longer pay their debts are considered to be insolvent. If your company is in financial distress, however, it cannot declare bankruptcy. An insolvency practitioner can advise on the best course of action, but common alternatives to bankruptcy for companies include the following:
If a company enters into administration, then the company directors surrender their decision-making powers to an appointed insolvency practitioner.
As part of the process, the administrators then decide on the best course of action, with the aim being to save the company from liquidation while paying back creditors.
During the administration period, the company may be restructured or streamlined in order to get its finances back on track.
Company Voluntary Arrangement
A company voluntary arrangement, or CVA, is an agreement made between the directors of a company and their main creditors. It’s similar to an individual voluntary arrangement, in that the company’s debts and loans might be reorganised, and new payment terms created.
A CVA is designed to help companies pay back their creditors, while also buying time for them to restructure and find a viable route out of insolvency.
Liquidation is a last resort for companies that fail to become solvent again. Unfortunately, the liquidation process sees a complete winding up of the business.
There are several different types of liquidation that companies can be subjected to, and liquidation can be either a voluntary or compulsory process.
The main goal of any liquidation process is to sell off a company’s assets in order to pay back creditors. An insolvency practitioner is appointed to oversee the liquidation process, and to ensure that as many creditors as possible see some of the money owed to them repaid.
Contact Irwin Insolvency for Your Free Bankruptcy Consultation
If you’re considering declaring bankruptcy, it’s important to speak to a professional insolvency advisor first. While bankruptcy can offer you a fresh financial start, it can also have serious long-term consequences.
With decades of experience advising on personal bankruptcy in the UK, the experts at Irwin Insolvency are ready to help you. Contact our expert team today to book your free, bankruptcy consultation.