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What Is Legal Bankruptcy?

Legal bankruptcy is initiated through the filing of a court petition to gain debt relief.
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  • Written By: N. Madison
  • Edited By: Jenn Walker
  • Last Modified Date: 15 August 2014
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The term legal bankruptcy can mean proceedings used to provide debt relief for an individual. It can also describe the liquidation or reorganization of a company. Either way, it indicates the effort to dispense with or reorganize debts.

Often, people think of legal bankruptcy in terms of individuals who are having trouble paying their bills. If a person owes a significant amount of money and does not have the money to repay his debts, he may file for bankruptcy. Depending on the country in which the person seeks bankruptcy and the type of bankruptcy for which he applies, he may have his debts discharged. This means he does not have to repay them. In other cases, the bankruptcy results in a repayment schedule that is easier for the debtor to handle.

Legal bankruptcy may seem to be an easy way out of repaying one’s debts, but it has consequences. Bankruptcy is listed on a person’s credit report and may make it harder for him to secure new credit, buy a house, or even rent an apartment. Additionally, some types of employers perform credit checks before hiring. They may be hesitant to hire someone with a history of financial problems.

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Like individuals, businesses can develop financial problems and have difficulty paying their debts. A business owner may file legal bankruptcy in an effort to liquidate his business, raising money to pay off his debtors. If the situation warrants it, the business owner could opt for reorganization instead, getting court approval for a plan to generate profits to repay his business debts within a certain amount of time.

There are advantages to both types of legal bankruptcy for businesses. If the business has a good market and the potential to increase profits, reorganization may prove helpful. This type of bankruptcy may allow a business to drop old contracts that are contributing to its demise, for example, freeing up cash to pay creditors and keep the business running.

Business bankruptcy liquidation requires the business to sell its assets for the benefit of its creditors. For example, if a person owns a furniture warehouse and goes bankrupt, he may have to sell the furniture and store fixtures he owns in order to repay his debts. He may not have to repay the exact amount he owes, however. Often, a business owner is allowed to pay each creditor a percentage of the amount he owes instead. This choice may be preferred when there is little market for the business in question and scant hope for profitability; businesses typically close down after bankruptcy liquidation.

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