Can Personal Loans Be Included in Bankruptcy?

Personal loans from friends, family, or employers are debts that can be discharged in the case of bankruptcy. A discharge releases individual borrowers from the legal obligation to pay previously existing debts. Other examples of debt that can be discharged include debt credit cards, medical bills, past due utility bills, and dishonored checks and civil court fees not deemed fraudulent.

Filing for Bankruptcy

There are two primary ways that individuals can file for bankruptcy. One is Chapter 7 bankruptcy, which involves the cancellation of most or all debts, depending on which debts are deemed dischargeable. It is possible that in the case of Chapter 7 bankruptcy, also known as “liquidation bankruptcy,” the bankruptcy trustee liquidates or sells the property of the debtor filing for bankruptcy to repay all or a portion of their debts to creditors.

Some personal property is exempt from liquidation in a Chapter 7 bankruptcy, though there are limits on the value of the exemption. Examples include:

• Homestead
• Motor vehicle
• Personal property
• Retirement accounts
• Health aids
• Jewelry

Chapter 13 bankruptcy is sometimes called “reorganization bankruptcy.” In the case of a Chapter 13 filing, a court-mandated repayment plan is put into place. If the plan is executed to the satisfaction of the court, additional debt may be canceled or forgiven. The debtor’s property is not confiscated or sold to raise money in a Chapter 13 bankruptcy. As of April 1, 2022, debtors cannot owe more than $465,275 of unsecured debt or $1,395,875 of secured debt to file for a Chapter 13 bankruptcy. The Bankruptcy Code makes provision for an increase to these limits every three years.

Differences Between Types of Bankruptcy

Chapter 7 bankruptcy differs from Chapter 13 bankruptcy in important ways. Most notably, in a Chapter 13 bankruptcy the debtor keeps their property with the understanding that they are required to pay back all or a portion of the debts over a three-to-five-year period. Chapter 13 bankruptcy allows the debtor to retain assets and recover from bankruptcy quickly, provided the debtor is able to meet the eligibility requirements, such as earning enough income to repay the debt in a timely fashion.

Chapter 7 bankruptcy can be more devastating to a debtor with a sizable asset base, but it is a preferable option if the debtor’s asset base is small and the amount of debt is seemingly insurmountable. It can allow debtors to very quickly discharge a large amount of debt. Chapter 7 bankruptcy is usually reserved for people with little income who cannot pay back a portion of their debts.

With a Chapter 7 bankruptcy filing, unsecured debts are wiped clean once the court has approved the filing. This process can take several months. With a Chapter 13 bankruptcy filing, unsecured debts are not wiped clean. Instead, payments have to be made according to a plan mandated by the court. Once you reach the end of the plan and all payments have been made, any remaining debt is wiped clean.

The Bottom Line

If you have any outstanding personal loans that you cannot pay and you are filing for bankruptcy, there's a good chance they can be discharged. Bankruptcy may not be the perfect solution, but it could give you the financial fresh start you might need.