Chapter 7 is commonly known as a “straight” or “liquidation” bankruptcy.

Under Chapter 7 you are seeking to have your debts discharged, meaning the legal obligation to pay creditors is canceled. You can pay all or some creditors after bankruptcy if you feel morally obligated, but cannot be legally required to repay. In exchange for discharging debt, certain non-exempt assets may be liquidated under court supervision, with the proceeds to be applied to creditors. You can file Chapter 7 no more than once every 8 years.

Certain types of debts are non-dischargeable. With some exceptions, they include student loans, taxes, support payments, fraudulent debts, debts for embezzlement or larceny, fines and penalties, debts incurred as a result of a willful or malicious injury, unscheduled debts and debts denied discharge in a prior bankruptcy.

Secured debts are fully dischargeable, but valid liens will survive the bankruptcy, and you must surrender the collateral back to the creditor if you do not intend to continue making payments. If you want to keep the secured collateral, you can reaffirm the debt. Reaffirmation means a legal re-obligation to pay the debt as if the bankruptcy never occurred. In exchange for reaffirming, the creditor allows you to keep the secured property, as the creditor will retain the right to collect on the debt should you later default. Reaffirming requires that you sign a written contract that must be filed with the court prior to the conclusion of the case. You will most likely want to reaffirm on a home and automobile, but not charge cards or other debts, unless there is good reason.

Once your petition is filed, a trustee is appointed to represent the best interest of your creditors. The trustee is given broad power under the law. He can set aside improper transfers of property, and can even recover money improperly paid to creditors before filing. The trustee makes sure that all creditors are treated fairly and equally in the bankruptcy proceeding.

Most importantly, the trustee is responsible for collecting and liquidating any non-exempt assets. If assets are available for liquidation, creditors are notified and sale proceeds are distributed to creditors based upon the classification and priority of their debt. Any money left over is returned to you after creditors and administrative expenses are paid.

The trustee theoretically has an interest in all non-exempt assets you own up to the date the petition is filed. These assets, as a group, are called the bankruptcy estate. With limited exception, property you acquire after filing does not become part of the bankruptcy estate, and can not be taken by the trustee.

Does this mean you lose everything? Not at all. In most cases, valuable property such as your home or vehicle is either secured or exempt. Much of your other property, as a practical matter, may not be worth the expense of conducting a sale. A typical rule of thumb is that property with a value of less than $1000 will not be sold by a trustee.

The laws allow you to keep certain property above any liens or encumbrances to preserve your ability to live. These are called property exemptions. Exempt property, up to certain value limits, includes your home, vehicle, furniture, appliances and various other personal possessions.  

The trustee cannot sell secured property unless he first pays off the lien. Therefore, the trustee will not have any incentive to sell secured property that, at a minimum, does not exceed the value of the lien on the property. As long as you can afford the payments on secured debts, such as for your home or vehicle, you can reaffirm with the creditor and keep the collateral.

For this reason, most people keep their home and automobile because there is usually no non-exempt equity in such property. A home, for example, may have a payoff amount on the  secured mortgage close to the value of the property. In New York, a husband and wife can exempt up to $20,000 of equity in their home. In other words, as long as the sale of your home would net you less than $20,000 ($10,000 if owned individually) after payment of liens and closing costs, the home is exempt from sale by the trustee. As long as equity does not exceed the exemption amount, the collateral  has no value to the bankruptcy estate, and the trustee cannot sell the property. The same holds true for a motor vehicle with equity less than $2,400.

Approximately 45 days after filing the petition, you are required to attend a meeting, known as the Section 341 First Meeting of Creditors. There, the trustee will determine whether there are assets to be liquidated, or whether there has been any improper conduct affecting your case. There is usually only one meeting, but occasionally a second meeting is scheduled if further information is needed. Your creditors are free to appear and ask questions as well, but creditors rarely attend. The length of the meeting may vary. It usually takes no more than an hour for all scheduled cases on the calendar to be completed.

Approximately two months after the meeting date the court issues the Discharge Order signifying the conclusion of the case. The two month waiting period is designed to allow the trustee or a creditor enough time to file an objection to dischargeability, if appropriate. These objections to discharge are known as adversary proceedings, and are usually based on some alleged fraudulent activity. The U.S. Trustee's office, a branch of the Justice Department, can also object if they find that there has been a “substantial abuse” of the bankruptcy laws. The vast majority of cases, however, will be concluded without objections, and honest debtors should have nothing to fear.

The average case is completed in three to four months and you then have a fresh start. While your creditors will not be paid after discharge, some can treat the discharged debt as a loss on their income tax return.