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Bankruptcy Debt Classifications



1. Secured Debts

1.1. Liens Survive Bankruptcy

1.2. Options for Dealing with Secured Debt

(a) Surrender

(b) Reaffirmation

(c) Redemption

(d) Renegotiate

2. Priority Debts

2.1. Domestic Support Obligations

2.2. Administrative Expenses

2.3. Tax Claims

(a) Income Taxes

(b) Employment Taxes

(c) Sales Taxes

(d) Property Taxes

3. General Unsecured Debts

1. Secured Debts. Secured debts are debts on which the creditor holds a “security interest” or “lien” on specific property to secure payment of (or collateralize) the debt. If the debt is not paid, the creditor can seize and sell the property to satisfy the debt. Most home loans, vehicle loans and department store purchases are secured debts because the contract documents will generally allow the creditor to repossess the property if the loan is not repaid. In business cases, the repayment of most bank loans are secured by a lien on the business assets, including the business equipment, inventory, furniture, vehicles and accounts receivable.       Index

1.1. Liens Survive Bankruptcy. In a Chapter 7 case, a “lien” against property will survive the bankruptcy, but the debt will be discharged. This means that the creditor can never attempt to recover the debt as a personal liability of the debtor. However, after bankruptcy, if the debt is not paid, the creditor can enforce the lien by repossessing the property, selling it, and applying the proceeds to satisfy the debt.        Index

1.2. Options for Dealing with Secured Debt. In a Chapter 7 case filed in Texas (or anywhere in the Fifth Circuit), the debtor will have four options for dealing with secured debt:        Index

(a) Surrender. Give the property back and owe nothing.        Index

(b) Reaffirmation. Keep the property and reaffirm the debt. See the page titled “Reaffirmation Agreements in Chapter 7 Bankruptcy” for a discussion of reaffirmation agreements.         Index

(c) Redemption. Redeem the property by paying the creditor, in cash, the full market value of the property. See the page titled “Redemption of Property In Chapter 7 Bankruptcy” for a discussion of redemption of property in Chapter 7 cases.         Index

(d) Renegotiate. Renegotiate the contract in an attempt to lower the payments or interest rate.         Index

2. Priority Debts. The Bankruptcy Code contains a list of 9 different types of unsecured debts which have “priority” status over other unsecured debts. If money is available for distribution to creditors (a rare occurrence in a consumer Chapter 7 case), creditors holding priority claims will receive payment before any other unsecured creditors. All priority debts are “unsecured” because no specific property secures repayment of the debt. Priority claims receive payment in accordance with their rank in the priority scheme. Priority claims with a higher rank must be paid in full before priority claims of a lesser rank will receive any payment.         Index

Most priority classifications are not relevant in consumer Chapter 7 cases. The most important types of priority debts, and their rank, are as follows:

2.1. Domestic Support Obligations. Debts for child support, spousal support or alimony. The definition of a “domestic support obligation” is very broad, and includes debts:         Index

(a) owed to a spouse, former spouse, child of the debtor, such child’s parent, legal guardian, or responsible relative, or a governmental unit;

(b) for alimony, maintenance, or support (including assistance provided by a governmental unit) of such spouse, former spouse, or child of the debtor or such child’s parent;

(c) assessed either before or after the case is filed;

(d) not assigned to a nongovernmental entity, unless voluntarily assigned by the beneficiary of the support for the purpose of collecting the debt.

2.2. Administrative Expenses. Claims for expenses incurred by the trustee or debtor in preserving estate property, including wages, salaries or commissions for services rendered after the case has been filed. This category includes attorney’s fees incurred by the trustee or debtor in preserving estate property or bringing it into the estate.         Index

2.3. Tax Claims. Debts owed to governmental units for certain unpaid taxes. The following tax claims are considered priority debts: Index

(a) Income Taxes. Any income tax if:         Index

(i) less than 3 years elapses between the date the bankruptcy case is filed and the date the tax return was last due, including all extensions;

(ii) the tax is assessed within 240 days of the date the bankruptcy is filed; or

(iii) the tax has not been assessed, but is legally assessable after the bankruptcy is filed (e.g. additional taxes assessed as a result of an audit).

(b) Employment Taxes. Most employment taxes owed by employers.         Index

(c) Sales Taxes. A sales tax owed to a governmental entity.         Index

(d) Property Taxes. A property tax more than one year in default before the bankruptcy petition is filed.         Index

See the page entitled “Discharging Tax Debts in Bankruptcy” for a more detailed discussion of the classification and dischargeability of tax claims in bankruptcy.

3. General Unsecured Debts. All debts other than secured and priority debts are classified as “general unsecured debts.” Unsecured debts are debts which do not entitle the creditor to repossess any specific property if the debt is not paid. A “general” unsecured debt is an unsecured debt which is not entitled to priority.         Index

Most credit card debts and medical bills are general unsecured debts. Debts obtained through the entry of a court judgment are also general unsecured debts, but can become secured against specific property if the judgment holder takes steps to secure the judgment in accordance with Texas state law.

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