What is Bankruptcy?
Bankruptcy is the legal status of a human or a non-human entity (a firm or a government agency) that is unable to repay its outstanding debts to creditors. Generally, it is initiated by the debtor and imposed by a court.
The word is derived from the Italian word banca rotta, which translates to “broken bank.” The origin of this word can be linked to a widespread custom in the Republic of Genoa of breaking the bench or the counter of the money changer to signify insolvency.
Bankruptcy did not exist in ancient times. The concept of debt slavery was more prevalent, especially in ancient Greece. If a man failed to pay the debt to his creditor, his wife, children, or servants were forced into debt slavery to serve the creditor until he recovered his loss through their physical labor. An exception to this custom was Athens, which forbade enslavement for debt. The Statute of Bankrupts was an Act passed by the Parliament of England in 1542. It was the first statute of English law that dealt with the matter.
There are several advantages to filing bankruptcy, including the following:
- Helps avoid never-ending demand letters, legal threats, and calls from creditors to your home, family, or business.
- Helps maintain a certain baseline, e.g., houses and cars are protected in most cases.
- Burdens of debt are taken care of (truly gone, in most cases), instead of just being put on hold.
Bankruptcy is not a simple one-step process and has disadvantages as well. It takes a lot of commitment and effort. Some types even demand that individuals make ongoing payments and undergo some post-bankruptcy procedures.
It may reduce your chance of getting approved for certain types of loans and rental agreements, as it negatively impacts your credit score. In some cases, it also means giving up your credit cards, which makes it difficult to make payments where credit cards are required.
Bankruptcy Laws by Country
In Australia, bankruptcy is governed by the Federal Bankruptcy Act of 1966. In case an individual becomes bankrupt, a creditor can apply to the Federal Circuit Court for a sequestration order. A person can also seek protection by lodging a debtor’s petition with the Official Receiver. The debtor should owe at least $5,000 for a creditor to lodge a petition.
Bankruptcy is also referred to as insolvency in Canada and is governed by the country’s Bankruptcy and Insolvency Act. The office of the Superintendent of Bankruptcy is responsible for overseeing the fair and orderly administration of bankruptcies in the country.
China legalized bankruptcy in 1986 and enacted a revised law in 2007, which was more thorough and extensive.
The legal definitions of bankruptcy, liquidation, insolvency, and dissolution are contested in the Indian legal system. No law existed in the past, but now the Insolvency and Bankruptcy Code 2016 is in effect, passed by the Parliament of India in May 2016.
In the United Kingdom, the matter relates only to sole proprietorships and partnerships. Companies and other corporate entities come under differently named legal procedures (liquidation and administration). In Scotland, the matter is referred to as sequestration.
The matter of bankruptcy in the United States is placed under federal jurisdiction by the US Constitution. It empowers Congress to enact uniform laws on the subject throughout the country.
Examples of Major Bankruptcies in Recent Years
- Lehman Brothers Holdings Inc. was a global financial services firm that was involved in investment banking, research and trading, investment management, private equity, and private banking. The company went under on September 15, 2008. Assets were worth $600 billion.
- On September 26, 2008, Washington Mutual Inc. filed for bankruptcy. All assets and most of the liabilities were assumed by JPMorgan Chase. Assets were worth $327.9 billion.
- General Motors Company, generally called GM, is a U.S.-based automaker. By sales, GM ranked as the largest in the U.S. and the world’s second-largest in 2008. On the Fortune Global 500, GM posted the third-highest 2008 global revenue among automakers. GM filed for bankruptcy on June 1, 2009. The filing reported $82.29 billion in assets and $172.81 billion in debt.
Thank you for reading CFI’s guide to bankruptcy. To learn more about debt, the following CFI resources will be helpful.