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Waseem Alim

Bankruptcy is the legally declared inability of an individual or organization to pay its creditors. When a company files for bankruptcy, they do so in Federal Court under the Bankruptcy Code. Creditors may file an "involuntary bankruptcy" petition against a debtor in an effort to recoup what they owe. However, in most cases, bankruptcy is initiated by the debtor, and this is called "voluntary bankruptcy".^[1]

Types of Bankruptcy

Chapter 7

Chapter 7 bankruptcy is also known as liquidation bankruptcy. Firms filing this form of bankruptcy are past the stage of reorganization and must sell off all un-exempt assets to pay creditors. The creditors collect their debts according to the seniority of their debts. A trustee is appointed, who ensures that any assets that are secured are sold and that the proceeds are paid to the specific creditors.

For example, secured debt would be loans issued by banks or institutions based upon the value of a specific asset. Whatever assets and residual cash remain after all secured creditors are paid are pooled together to be paid to any outstanding creditors with unsecured loans: e.g. bondholders and preferred shareholders.

Chapter 11

A chapter 11 bankruptcy allows the company to stay in business while a bankruptcy court supervises the "reorganization" of the company's contractual and debt obligations. The court can grant complete or partial relief from debts and contracts, allowing the company can make a new start.

Often, if the business's debts exceed its assets, then at the completion of bankruptcy the company's owners all end up without anything; all their rights and interests are ended and the company's creditors are left with ownership of the newly reorganized company.

Chapter 11 bankruptcies can be extremely complicated and expensive (in terms of legal and consulting fees) for an organization.

References

1. ↑ Wikipedia, Retrieved September 15, 2008