Bankruptcy Court: Meaning, Procedures, Examples

What Is Bankruptcy Court?

A bankruptcy court is a federal court that specializes in hearing and deciding bankruptcy cases involving individuals or businesses. The United States Constitution in 1787 authorized Congress to establish uniform national bankruptcy laws. Those laws and the ways that courts administer them have been amended numerous times in the years since. Here is how bankruptcy court works today.

How Bankruptcy Court Works

While most criminal, civil, and family cases are heard in state courts, bankruptcy must be filed in a federal court because the laws that govern bankruptcy are part of federal law.

State laws can, however, come into play in some cases, particularly in determining which of the debtor's assets are "exempt"—meaning that the debtor is allowed to keep them.

There are 94 federal judicial districts throughout the United States, and each district has a bankruptcy court. Federal law requires that bankruptcy cases be filed and heard in the judicial district where the filer's primary residence, place of business, or principal assets have been located for a certain period of time.

The United States Court of Appeals appoints bankruptcy judges, who serve 14-year terms. Proceedings of a bankruptcy court are public unless a judge rules that they must remain under seal. They can be accessed at a bankruptcy clerk's office or through the Public Access to Court Electronic Records website, also known as PACER.

Procedures in Bankruptcy Court

After a debtor files a bankruptcy petition, the court will evaluate the debtor's financial situation and issue a decision on how the debtor's assets may be used to repay a portion of their outstanding debt.

The decision will typically lead to the discharge of certain of the creditor's debts. This means that the debtor is no longer responsible for whatever remains of those debts. Some debts, however, are ineligible for discharge, including tax claims, child support, alimony payments, and personal injury debts. An individual is also responsible for any debts involving secured property (such as a car with an auto loan), and creditors can still enforce a lien on a debtor's property and take possession of it.

Types of Bankruptcy

Bankruptcy courts handle a wide variety of bankruptcy cases involving individuals or organizations. The following are the most common types. Their names derive from the particular chapter, or section, of Title 11, the United States Code that defines them.

• Chapter 7. Also known as a "liquidation" bankruptcy, Chapter 7 bankruptcy allows individuals or businesses to have most of their debts discharged by liquidating non-exempt assets. A bankruptcy trustee sells off those assets to pay creditors, who typically receive only a portion of what they are owed. Chapter 7 is the most common form of bankruptcy for individuals.
• Chapter 11. Chapter 11 bankruptcy is typically used by businesses to reorganize their debts and continue operating while repaying creditors. It can also be used by individuals who have too much debt to qualify for Chapter 13, below.
• Chapter 12: Chapter 12 bankruptcy is similar to Chapter 13, but it is specifically designed for family farmers and fishermen who have regular income.
• Chapter 13. Chapter 13 bankruptcy allows individuals to reorganize their debts and create a payment plan to repay creditors over three to five years. This approach is often used by companies or individuals that have solid revenue or earnings and expect to be able to make creditors whole over time. It also allows debtors to retain more of their assets, as long as they comply with the plan.
• Chapter 15. Chapter 15 bankruptcy is used in cases where the debtor has assets or debts in multiple countries. It is a way to coordinate different bankruptcy proceedings and ensure that all creditors are treated fairly regardless of jurisdiction.
  

Avoiding Bankruptcy Court

Bankruptcy is often characterized as a last resort that is best avoided unless there is no other alternative. The bankruptcy process can be expensive, with the debtor responsible for attorney fees, court costs, administration fees, filing charges, and a very wide range of miscellaneous fees.

Another major downside is a lack of privacy. By filing for bankruptcy, a debtor's financial situation typically becomes public record. That can be an embarrassment for both individuals and companies.

Going to bankruptcy court also has an impact on individuals' credit scores. Though this may already be a foregone conclusion if you are past due on debts, filing for bankruptcy can significantly and negatively impact your credit score for years to come.

Finally, when you file for a liquidation bankruptcy, you lose control over most of your assets. Instead, an appointed trustee may be able to sell them off as they see fit.

Can You Appeal a Bankruptcy Court Decision?

If a debtor or one of their creditors disagrees with the bankruptcy court's decision, they can appeal it. 

The appeal must be filed within 10 days of the court's decision. An appeals court generally handles bankruptcy appeals. In fact, many judicial circuits have their own bankruptcy-specific appellate courts to deal with such disputes.

Example of a Major Bankruptcy Court Case

In November 2022, FTX Trading Ltd. and more than 100 of its affiliated companies collectively filed for Chapter 11 bankruptcy, and its founder and CEO, Sam Bankman-Fried, stepped down. After raising $1.8 billion from investors, the cryptocurrency exchange became one of the most prominent players in the 2021 cryptocurrency boom. However, toward the end of 2022, FTX faced a deficit of billions of dollars, allegedly resulting from a misappropriation of depositor funds.

FTX's case is being overseen by the bankruptcy court to decide how to best allocate the company's remaining assets. In December 2023, FTX submitted a Chapter 11 reorganization plan for court approval. The plan almost immediately faced objections and lawsuits from creditors, however, and remains unresolved as of February 2024.

Bankman-Fried, meanwhile, was convicted on seven counts of fraud and conspiracy in criminal court in November 2022 and was scheduled to be sentenced on March 28, 2024.

The Bottom Line

Bankruptcy court exists to assist individuals and companies that have more debt than they can pay back and to ensure that their creditors have an opportunity to receive at least a portion of what they are owed. Federal law guarantees that bankruptcy filers will be treated basically the same regardless of the state where they live or do business.