Bankruptcy can be defined as legally found or declared inability of an individual or a business organization to pay liabilities falling due. Similar term insolvency which is applied when a debtor’s assets exceed liabilities is distinguished from bankruptcy by the fact that bankruptcy have to a legal finding by a court. Word bankrupt derives from Latin words bancus (bench), and ruptus (break) and came into use due to a practice of ancient bankers, who broke the public bench on which they transacted business when they became insolvent. United States Constitution Article I, Section 8 authorizes the Congress to ‘enact uniform laws’ on bankruptcy. Accordingly Congress has enacted the Bankruptcy Code included in Title 11 of the United States Code. Bankruptcy courts come under federal jurisdiction though certain provisions such as exempt property depend on State law.
Bankruptcy laws aims to fulfill two purposes as pointed out by a Supreme Court decision in 1934. First they aim to give an honest debtor a ‘fresh start’ in life by discharging most debts even though debts may not be paid in full. Second they aim to repay the creditors to the extent that debtor’s assets would allow in an orderly manner. Debtor is also protected from other judicial and administrative actions on the part of the creditors during the period that bankruptcy proceedings are pending, by a legally imposed ‘automatic stay’. While most debts are discharged by bankruptcy process secured creditors can with court’s permission enforce the lien on secured property. Certain other debts such as taxes and alimony payments cannot be discharged.
Depending on the situation and debtor United States Bankruptcy Code allows for six types of bankruptcy filings usually named after the chapter describing them in the code. Under Chapter 7, also called liquidation bankruptcy, debtor’s property is transferred to an estate administrated by a court appointed trustee, who them liquates the estate and divides the proceeds among the creditors according to a priority schedule described in law. Some properties are exempt from liquidation so that debtor can move forward unhindered by unnecessary punitive actions on the part of the creditors. Exempt items vary according to State. Under Chapter 13 debtor has to put forward a repayment plan and once it is approved by court the debtor must repay the creditors through a court appointed administrator according to the plan which may last three to five years. Debtor can remain in possession of his/her property during this period. Chapter 11 deals with complex bankruptcies, usually involving businesses and aim at rehabilitation instead of liquidation. Chapter 12 is similar to chapter 13 but deals with family farmers and fishermen. Chapter 9 deals with municipality bankruptcies. Chapter 15 deals with cross border bankruptcies. An individual or a business that tries to evade payment of due liabilities by filing for bankruptcy even when not insolvent is committing the business crime of ‘bankruptcy fraud’. Bankruptcy reforms enacted in 2005 were aimed reducing abuses of bankruptcy code.