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What is a Chapter 13 hardship discharge?

Hardship discharge may be claimed when Chapter 13 payments hit roadblock

Chapter 13 bankruptcy allows people to pay their creditors over several years while they continue to work and keep their property with the protection of the U.S. Bankruptcy Court.

But circumstances can change that prevent payments from being made according to the original court-ordered repayment plan. A debtor may become unemployed, face unanticipated medical bills or a family crisis could cause an additional financial hardship.

There are options built into the system to aid debtors who no longer have the money to make their payments, including a hardship discharge allowed under some conditions.

"One of the strengths of Chapter 13 is its flexibility. While requiring the debtor to make payments from future income, the bankruptcy code recognizes that things change," writes California lawyer Cathy Moran on Bankruptcy Law Network.

Debtors may be able to modify their Chapter 13 case by asking the court to suspend the plan for a few months or reduce the size of the payments. Another option is to convert the case to a Chapter 7 bankruptcy, but doing that would force them to sell their non-exempt property to pay creditors and provide limited protection against a home foreclosure from going forward.

Or, individuals may apply for a hardship discharge, which eliminates all debts except those that cannot be discharged in a Chapter 7 action, such as mortgage payments. To qualify, they must show that circumstances beyond their control prevent them from continuing with their payment plan.

In addition, debtors must have paid creditors as much as they would have if the case was initially filed under Chapter 7. If they have already provided the full amount required in Chapter 7, the court recognizes that converting to a liquidation bankruptcy would cause debtors to pay more than is required and risk having their property seized unnecessarily.

As a result, many bankruptcy attorneys prefer that their clients apply for a hardship discharge, rather than a case conversion. If necessary, the hardship discharge under Chapter 13 allows debtors to file another Chapter 13 case in two years when their income situation may have improved.

"By electing a hardship discharge, my clients are eligible to file another Chapter 13 when they are again healthy or employed, and can benefit from the automatic stay in a subsequent case to finish paying the debts that often drove the Chapter 13 in the first place," states Moran.

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