Does bankruptcy clear all debt?

What debts are discharged in bankruptcy?

Bankruptcy most commonly discharges unsecured debt. It’s called “unsecured” because it doesn’t require collateral. Collateral is something a creditor can take from you to recoup its losses if you’re unable to pay. For example, a car serves as the collateral for a car loan.

• Unsecured debt: Personal loans, credit cards and medical debt are common types of unsecured debt.
• Old tax debt: Any tax owed to the IRS must be at least three years old in order to be considered for discharge.
• Student loan debt: Student loan debt is only discharged in very specific situations; to discharge your student loans, you have to file a separate lawsuit within the bankruptcy and prove undue hardship.
• Secured debt: Debts like mortgages and car loans can be discharged. However, they are often part of a reaffirmation agreement (which we explain below).
• Legal fees associated with bankruptcy: You can discharge the amount you owe your legal representative for your bankruptcy case.

» LEARN: What is debt forgiveness?

What debts are not discharged in bankruptcy?

Bankruptcy can be a great way to wipe the slate clean if you’re struggling with your finances and unable to pay your debts. But not all types of debt can be discharged in bankruptcy. The most common types of nondischargeable debt include:

• Current tax debt
• Payroll taxes
• Alimony and child support
• Payments for willful or malicious injury to a person or property
• Debts to governmental units
• Debts for personal injury caused while driving under the influence

Why are some of these debts nondischargeable? Mostly, this exists for equitable reasons, according to Ashley Morgan, a bankruptcy attorney in Herndon, Virginia. “Getting rid of certain debts is against public policy. For example, discharging alimony and child support would create an unfair burden to the person (or persons) who depend on that income,” she said.

Similarly, tax debt is only dischargeable after a certain amount of time. This statute of limitations exists to ensure that the taxing authority has been able to make reasonable attempts to collect on the debt.

» MORE: Is a 401(k) protected from bankruptcy?

How do different types of bankruptcy affect debt discharge?

In general, more debts can be discharged under Chapter 13 simply due to the nature of this type of bankruptcy filing. Chapter 13 bankruptcy more often involves a repayment plan where you retain some of the assets included in the filing.

There are several ways in which Chapter 7 and Chapter 13 bankruptcy differ. While most of the same rules apply to discharging debts in Chapter 7 and Chapter 13, one unique situation exists when there is a post-bankruptcy divorce case: The equitable distribution of assets might be dischargeable under Chapter 13 but is never under Chapter 7.

» MORE: How much do you have to be in debt to file Chapter 7?

Chapter 7 vs. Chapter 13 bankruptcy

Morgan offers this clear-cut look at the two most popular types of bankruptcy available to individuals:

• Chapter 7 (Liquidation Bankruptcy): This type of bankruptcy allows you to eliminate most unsecured debts, such as credit card balances and medical bills, without requiring repayment. In exchange, certain nonexempt assets may be sold to pay creditors. Once the process is complete, eligible debts are fully discharged, meaning you no longer owe them.
• Chapter 13 (Repayment Bankruptcy): Instead of immediately wiping out debts, Chapter 13 restructures them into a court-approved repayment plan that lasts three to five years. You make scheduled payments based on your income and financial situation. At the end of the repayment period, any remaining eligible debt may be discharged. This option allows you to keep important assets, such as your home or car, as long as you keep up with payments.

» MORE: How long does it take to recover from bankruptcy?

Can debts be reaffirmed or excluded from discharge?

Reaffirmation and exclusion are two very different things when it comes to bankruptcy. No debts can be excluded from bankruptcy. “All debts are listed or included in bankruptcy,” Morgan said. “You cannot leave any debts out of bankruptcy, but at the end of the case, some debts remain or are not discharged.”

While you cannot exclude debts from being included in a bankruptcy filing, a reaffirmation agreement is a legal contract that allows you to retain certain assets by agreeing to continue paying on them. This is only an option for debts secured with collateral, such as a physical asset like a home or vehicle.

The reaffirmation process involves including a reaffirmation form with your bankruptcy petition. If approved, you’ll retain the asset and you’ll be responsible for continuing to make on-time payments for it. If a court rejects a reaffirmation request, it’s likely because it lacked confidence in your ability to pay for the debt going forward.

The biggest benefit of reaffirmation is that you can hold onto a much-needed asset. But this comes with a big potential drawback: You also won’t be protected under bankruptcy. So, if a default happens in the future, says Morgan, the late payments are reported on your credit, and any deficiency balance becomes your responsibility and is outside the protection of bankruptcy (nor can you file bankruptcy again on the same debt).

» MORE: What happens after an automatic stay is lifted?

Bottom line: How do you know when to file for bankruptcy?

Filing for bankruptcy is a complex decision. Because it can have a severe impact on your credit, it’s best to consider it as a last-ditch attempt to eliminate your debt. According to Morgan, bankruptcy might be worth considering if:

• You cannot afford to pay off your debt within three years or so.
• You’ve been paying only minimum payments for more than six months.
• You haven't been able to pay down your debt in six months.
• You are delinquent on multiple accounts.
• You are facing additional collection activity like lawsuits, garnishments, foreclosures or repossessions.

In order to gain a clear understanding of your financial picture post-bankruptcy, you need to know which debts you might still have to pay once the process is over. While much of this is dependent on your personal situation and the type of bankruptcy you file, there are some types of debt that cannot be cleared in bankruptcy.

» COMPARE: Debt settlement vs. bankruptcy