The core of a Chapter 13 bankruptcy case is a three to five year repayment plan. The ability to stretch out past-due balances across 36-60 months can mean the difference between chaos and financial stability, and Chapter 13 allows many people to regroup and rebuild their finances without surrendering property. But, three to five years is a long time. No matter how committed you are to successfully completing your Chapter 13 plan, you can’t always predict the future.
Many people considering Chapter 13 are concerned about what will happen if their circumstances change dramatically in the course of a Chapter 13 case. To a degree, the Chapter 13 process is designed to adapt. When a change like an increase or decrease in income occurs, it is often possible to modify the Chapter 13 plan and keep the case moving forward. Occasionally, however, the debtor’s disposable income disappears completely, or becomes so limited that he or she truly can no longer sustain a Chapter 13 repayment plan.
When that happens, the debtor may be entitled to a “hardship discharge”–that is, many remaining unsecured debts may be discharged despite the fact that the debtor was unable to successfully complete the Chapter 13 repayment plan. However, not everyone who becomes unable to keep up Chapter 13 plan payments qualifies for a hardship discharge, and a hardship discharge won’t resolve all types of debt.
Qualifying for a Chapter 13 Hardship Discharge
Under Section 1328(b) of the U.S. Bankruptcy Code, a discharge may be granted to a Chapter 13 debtor who has not completed the plan if and only if:
- The debtor’s failure to complete payments under the plan is attributable to “circumstances for which the debtor should not justly be held accountable”
So, for example, a debtor who is rendered unable to work by a serious and ongoing medical condition would typically satisfy this requirement. But, if the debtor voluntarily quit his job to start a business that won’t generate significant revenues for a long time (if ever) or was fired for cause, the court would likely determine that the debtor could justly be held accountable for his failure to make plan payments, and so would likely deny a discharge.
- Each unsecured creditor with an allowed claim has received at least as much as that creditor would have in a Chapter 7 bankruptcy case
In most cases, Chapter 13 bankruptcy is better for unsecured creditors than Chapter 7. If the debtor has no non-exempt assets, unsecured creditors won’t receive any payment through a Chapter 7 case. But, in a Chapter 13 repayment plan, unsecured creditors may receive a percentage of the funds owed to them through plan payments. In some cases, unsecured creditors receive full payment on the debt through the Chapter 13 case. But, when the debtor is unable to continue making payments, that can change. This requirement ensures that creditors are not left worse off than if the debtor’s estate had been liquidated.
This requirement can present a hurdle for debtors who have not made significant plan payments before the hardship-inducing event occurred and who have non-exempt assets that would have been liquidated for the benefit of creditors in a Chapter 7 case.
- Modification of the plan is not practicable
Understandably, the law favors plan modification over total abandonment of the plan. Even if plan payments are reduced, unsecured creditors may still receive some ongoing payments. While some circumstances, such as a permanent disability or a terminal illness, may make it impossible for the debtor to make payments under even a modified plan, modification is preferable when possible.
A debtor who meets all three criteria may be granted a discharge without having completed payments under the Chapter 13 plan. But, the discharge won’t necessarily resolve all debts.
The Limitations of a Chapter 13 Hardship Discharge
For a debtor, there are two significant differences between receiving a discharge after successful completion of a Chapter 13 plan and receiving a hardship discharge in a Chapter 13 case.
The first and most obvious difference is that while the hardship discharge may relieve the debtor of many remaining unsecured debts, a bankruptcy discharge does not eliminate liens. In a successful Chapter 13 plan, the debtor catches up payments on or entirely pays off secured debt, eliminating or significantly forestalling the risk of foreclosure or repossession. However, when the debtor is unable to complete the plan, some or all of the property serving as collateral for secured debts may be at risk once again.
Not all unsecured debts are dischargeable in Chapter 7 bankruptcy. In Chapter 13 bankruptcy, some debts–or a portion thereof–that would not be eligible for discharge in Chapter 7 may be eliminated. For example, in a Chapter 13 case the debtor may be able to discharge some or all debt arising from:
- Willful or malicious damage to property (but not to a person)
- Debt incurred to pay non-dischargeable tax debt
- Property settlements in divorce or separation proceedings
The Bottom Line about Hardship Discharges
Ultimately, a hardship discharge in a Chapter 13 case won’t provide all of the benefits that successful plan completion followed by discharge could. However, for those who qualify, a hardship discharge can provide some relief to debtors whose changing circumstances have made successful plan completion impossible.
A local bankruptcy attorney can be your best source of information about whether you may qualify for a hardship discharge, and how your particular debts and collateralized property would be affected.