Bankruptcy Legal Terms Glossary
Explore definitions, related concepts, and supporting case briefs.
Definitions
Chapter 7 Liquidation
Chapter 7 of the Bankruptcy Code provides for the orderly liquidation of a debtor's non-exempt assets by a court-appointed trustee, with the proceeds distributed to creditors according to statutory priority. Available to both individuals and business entities, Chapter 7 results in the cessation of business operations for entities and, for individual debtors who qualify under the means test, a discharge of most pre-petition debts. The trustee's role is to collect the debtor's non-exempt property, convert it to cash, and distribute dividends to creditors in the order prescribed by 11 U.S.C. section 726. Chapter 7 is often called "straight bankruptcy" because it offers a fresh start rather than a repayment plan.
Chapter 11 Reorganization
Chapter 11 of the Bankruptcy Code allows a debtor, typically a business but sometimes an individual with substantial debts, to reorganize its financial affairs while continuing operations under court supervision. The debtor usually remains in possession of its assets as a debtor in possession (DIP) and proposes a plan of reorganization that must be accepted by creditors or, failing that, confirmed through the cramdown mechanism under 11 U.S.C. section 1129(b). The plan restructures debt obligations, may modify contract terms, and aims to preserve going-concern value. Chapter 11 is designed to maximize the value of the estate for all stakeholders rather than forcing piecemeal liquidation.
Chapter 13 Adjustment
Chapter 13 of the Bankruptcy Code permits individual debtors with regular income to retain their property while repaying creditors through a court-confirmed plan lasting three to five years, as governed by 11 U.S.C. sections 1321-1330. Unlike Chapter 7, Chapter 13 does not require liquidation of assets; instead, the debtor commits future disposable income to fund the repayment plan. The debtor must have unsecured debts below $465,275 and secured debts below $1,395,875 (amounts adjusted periodically). Upon successful completion of all plan payments, the debtor receives a discharge of remaining qualifying debts.
Automatic Stay
The automatic stay, codified at 11 U.S.C. section 362, is an injunction that takes effect immediately upon the filing of a bankruptcy petition and halts virtually all collection actions, lawsuits, foreclosures, garnishments, and repossessions against the debtor and property of the estate. It serves the dual purpose of giving the debtor breathing room and ensuring equitable treatment of creditors by preventing a race to the courthouse. Creditors may seek relief from the automatic stay by filing a motion under section 362(d), typically by showing cause such as lack of adequate protection of their interest in collateral. Willful violations of the stay can result in sanctions, including actual damages and attorneys' fees.
Discharge
A discharge in bankruptcy is a court order that releases the debtor from personal liability for most pre-petition debts, effectively providing the "fresh start" that is the fundamental policy of bankruptcy law. Under 11 U.S.C. section 524, the discharge operates as a permanent injunction barring creditors from taking any action to collect discharged debts. However, certain debts are excepted from discharge under section 523, including student loans (absent undue hardship), most tax debts, debts obtained by fraud, domestic support obligations, and debts arising from willful and malicious injury. A discharge may be denied entirely under section 727 if the debtor engaged in fraudulent conduct, destroyed records, or failed to complete required financial management courses.
Exempt Property
Exempt property refers to assets that a debtor may retain free from the claims of creditors and the reach of the bankruptcy trustee, ensuring the debtor is not left destitute after bankruptcy. Exemptions are governed by 11 U.S.C. section 522, which provides a set of federal exemptions while also permitting states to opt out and require debtors to use state-law exemptions instead. Common categories include a homestead exemption protecting equity in the debtor's residence, exemptions for personal property, tools of the trade, retirement accounts, and public benefits. The scope of available exemptions varies dramatically by jurisdiction, making domicile a critical strategic consideration in bankruptcy planning.
Means Test
The means test, established by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 and codified at 11 U.S.C. section 707(b)(2), determines whether an individual debtor's Chapter 7 filing is presumed to be an abuse of the bankruptcy system. The test compares the debtor's current monthly income against the median income for a household of the same size in the debtor's state; if income exceeds the median, a second calculation deducts allowed expenses to determine whether sufficient disposable income exists to fund a Chapter 13 repayment plan. If the debtor fails the means test, the case may be dismissed or converted to Chapter 13 unless the debtor can demonstrate special circumstances justifying additional expenses. The means test was designed to channel debtors with the ability to repay into Chapter 13 rather than allowing them to discharge debts entirely through Chapter 7.
Proof of Claim
A proof of claim is a written statement filed by a creditor under 11 U.S.C. section 501 and Bankruptcy Rule 3001, asserting the right to receive a distribution from the bankruptcy estate. The filing must set forth the basis for the claim, the amount owed, and whether the claim is secured, unsecured, or entitled to priority, and must be accompanied by supporting documentation such as promissory notes, invoices, or account statements. A properly filed proof of claim is deemed allowed under section 502(a) unless a party in interest objects, at which point the court holds a hearing to determine its validity and amount. Failure to file a timely proof of claim by the bar date set by the court typically results in the creditor being barred from receiving any distribution.
Preference
A preference, governed by 11 U.S.C. section 547, is a transfer of the debtor's property to or for the benefit of a creditor, made on account of an antecedent debt, while the debtor was insolvent, within 90 days before the bankruptcy filing (or one year for insider transfers), that enables the creditor to receive more than it would in a Chapter 7 liquidation. The trustee may avoid preferential transfers to recover the property for the estate and ensure equal treatment among similarly situated creditors. Several statutory defenses exist under section 547(c), including transfers made in the ordinary course of business, contemporaneous exchanges for new value, and subsequent new value given by the creditor. The preference power embodies bankruptcy's core equality principle by preventing creditors from gaining an advantage through last-minute collections.
Fraudulent Transfer
A fraudulent transfer, actionable under 11 U.S.C. section 548 and often supplemented by state fraudulent transfer laws incorporated via section 544(b), is a pre-petition transfer of the debtor's property that may be avoided by the trustee on two grounds: actual fraud or constructive fraud. Actual fraud requires proof that the debtor made the transfer with intent to hinder, delay, or defraud creditors, often established through circumstantial "badges of fraud" such as transfers to insiders, retention of possession, or concealment. Constructive fraud exists when the debtor received less than reasonably equivalent value for the transfer while insolvent or rendered insolvent by the transaction. Section 548 reaches transfers made within two years before filing, while state law claims under section 544(b) may extend the look-back period significantly.
Debtor in Possession
A debtor in possession (DIP) is a debtor who retains control and management of its property and business operations after filing a Chapter 11 bankruptcy petition, exercising many of the same powers and duties as a bankruptcy trustee under 11 U.S.C. sections 1107 and 1108. The DIP owes fiduciary duties to all creditors and the estate, must operate the business prudently, and may use, sell, or lease property of the estate in the ordinary course of business without court approval. For transactions outside the ordinary course, the DIP must obtain court authorization after notice and a hearing. A court may appoint a Chapter 11 trustee to replace the DIP under section 1104 for cause, including fraud, dishonesty, incompetence, or gross mismanagement.
Secured Creditor
A secured creditor holds a claim against the debtor that is backed by a lien on or security interest in specific property of the estate, as recognized under 11 U.S.C. section 506. The secured creditor's claim is bifurcated into a secured portion equal to the value of the collateral and an unsecured deficiency claim for any amount exceeding that value. Secured creditors enjoy significant protections in bankruptcy, including the right to adequate protection of their collateral under section 361, relief from the automatic stay if their interest is not adequately protected, and favorable treatment in reorganization plans. The priority and validity of security interests are generally determined by applicable non-bankruptcy law, typically Article 9 of the Uniform Commercial Code for personal property.
Unsecured Creditor
An unsecured creditor holds a claim against the debtor that is not backed by any lien, security interest, or collateral, placing it at the bottom of the distribution hierarchy in bankruptcy after secured claims and priority claims. Unsecured creditors include trade vendors, credit card companies, medical providers, and holders of deficiency claims remaining after collateral has been applied. In Chapter 7, unsecured creditors receive a pro rata distribution from whatever assets remain after satisfying secured and priority claims, which often results in little or no recovery. In Chapter 11 and Chapter 13, unsecured creditors must receive at least as much as they would in a hypothetical Chapter 7 liquidation under the "best interests of creditors" test of section 1129(a)(7).
Priority Claim
A priority claim is an unsecured claim that Congress has designated for preferential treatment in the distribution of estate assets under 11 U.S.C. section 507, meaning it must be paid in full before general unsecured creditors receive any distribution. The statutory priority categories, listed in descending order, include domestic support obligations, administrative expenses of the bankruptcy case, gap claims in involuntary cases, employee wages earned within 180 days pre-petition (up to a statutory cap), employee benefit plan contributions, certain consumer deposits, and specified tax claims. In a Chapter 11 plan, priority claims generally must be paid in full on the effective date unless the claimant agrees to different treatment. The priority scheme reflects policy judgments about which creditors' interests are most deserving of protection.
Cramdown
Cramdown refers to the court's power under 11 U.S.C. section 1129(b) to confirm a Chapter 11 plan of reorganization over the objection of one or more impaired classes of creditors, provided the plan does not discriminate unfairly and is "fair and equitable" to the dissenting class. For secured creditors, fair and equitable treatment requires the plan to provide the creditor with the present value of its allowed secured claim or the indubitable equivalent. For unsecured creditors, the absolute priority rule applies, meaning no junior class (including equity holders) may receive any distribution unless the dissenting senior class is paid in full. The cramdown mechanism, while powerful, requires that at least one impaired class of creditors has voted to accept the plan, ensuring a minimum level of creditor support.