Voluntary bankruptcy: Overview, definition, and example
What is voluntary bankruptcy?
Voluntary bankruptcy refers to the legal process by which an individual or business willingly files for bankruptcy, typically due to an inability to repay debts. In a voluntary bankruptcy, the debtor initiates the process by filing a petition with the court, asking for protection under bankruptcy laws. The purpose of voluntary bankruptcy is to provide the debtor with a fresh financial start by discharging certain debts or restructuring them in a way that makes repayment more manageable.
For example, a small business owner facing overwhelming debts may choose to file for Chapter 7 or Chapter 13 bankruptcy to either liquidate their assets (Chapter 7) or create a repayment plan (Chapter 13) to resolve their financial troubles.
Why is voluntary bankruptcy important?
Voluntary bankruptcy is important because it provides an orderly way for individuals or businesses to address financial distress and find legal protection from creditors. By filing for bankruptcy, debtors can stop collection actions, such as wage garnishments or lawsuits, and work toward eliminating or restructuring their debts. This process can help individuals and businesses avoid the more severe consequences of non-payment, such as asset seizures or ongoing legal action.
For businesses, voluntary bankruptcy offers a structured way to reorganize or liquidate, enabling them to either continue operations with a manageable debt load (through Chapter 11 bankruptcy) or close down while clearing debts (through Chapter 7 bankruptcy).
Understanding voluntary bankruptcy through an example
Imagine a business owner who has accumulated significant debt due to declining sales and rising operating costs. After exploring other options for repaying creditors, the business owner decides to file for voluntary bankruptcy under Chapter 7. The court will oversee the liquidation of the company’s assets to pay creditors, and any remaining eligible debts may be discharged, providing the owner with a fresh start.
In another example, an individual may be struggling with credit card debt, medical bills, and personal loans. After exhausting other options, the individual files for voluntary bankruptcy under Chapter 13, which allows them to keep their property while repaying a portion of the debt over a three-to-five-year period. The court approves the repayment plan, and creditors are required to accept the agreed terms.
An example of a voluntary bankruptcy clause
Here’s how a voluntary bankruptcy clause might appear in a contract:
“In the event that the Debtor voluntarily files for bankruptcy under Chapter 7 or Chapter 13 of the Bankruptcy Code, the Debtor agrees to notify all creditors within [X] days of filing and to cooperate in any necessary legal proceedings as required by bankruptcy law.”
Conclusion
Voluntary bankruptcy is a legal process initiated by an individual or business that is unable to repay its debts. It provides a way to either liquidate assets or restructure debt in a way that allows for a fresh financial start. For businesses and individuals facing overwhelming financial obligations, voluntary bankruptcy offers an organized method for resolving debt while gaining legal protection from creditors. Understanding voluntary bankruptcy is essential for businesses and individuals to navigate financial distress and seek relief under bankruptcy laws.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.