Bankruptcy

A debtor may hide from you, he may stonewall you, he may run from you, but he can never escape the fact that he owes you money unless he declares bankruptcy. Debt collectors take the threat of bankruptcy seriously because it can have such powerful consequences. The laws give the federal bankruptcy courts the right to wipe away your customer's debt to you in one stroke of the pen.

There a few things, however, you should know about bankruptcy, before one of your customers threatens you with it to get you to stop your collection efforts.

To begin with, there are really two types of bankruptcy. The first is called straight, or Chapter 7, bankruptcy. In straight bankruptcy, the debtor is seeking to have all or most of his debts wiped clean. He is, in effect, telling the court, "Here are my assets. Give what I have to my creditors, then wipe the slate clean so I can start over." The debtor in straight bankruptcy is allowed to keep a few of his or her assets, such as a house and some belongings.

The second type is called reorganization, or Chapter 11 bankruptcy (Chapter 13, for individuals who want to reorganize). In this case, the debtor is attempting to have the court take control of his or her finances and to work with all the creditors to formulate a repayment plan. The plan will allow the debtor to continue in business while the debts are being repaid. Your chances of collecting from the debtor are better in Chapter 11 or Chapter 13 than in Chapter 7.

The second thing you need to know is that once you discover that your customer has filed for bankruptcy, you must stop all your collection efforts. At this point, you should contact your lawyer. Have the lawyer file a proof of claim with the court on your behalf. And any payments you've received within the last 90 days of the bankruptcy may have to be returned to the bankruptcy estate.

The third thing you need to know is that the best protection you can have against someone going into bankruptcy is to have collateral for your debt. If you have collateral for your debt, you are considered to be a "secured creditor." In bankruptcy, secured creditors are paid before unsecured creditors. In fact, statistics indicate that the average secured creditor receives about 77 cents on the dollar, while the average unsecured creditor receives only about 2 cents. So you're much better off if you have collateral.

The fourth thing you need to know is that debtors love to use the threat of bankruptcy to thwart collection efforts. While you need to take any such threat seriously, you shouldn't automatically knuckle under to it. Unless you are one of the debtor's major creditors, your debt is unlikely to be the reason why he declares bankruptcy.