What is an Automatic Stay and How Can It Protect You?
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Over 410,000 Americans filed for bankruptcy in 2021. A bankruptcy filing may provide some respite for those overwhelmed by a mountain of debt. And while filing for bankruptcy may not be the out you were looking for, the automatic stay provision of U.S. bankruptcy laws may help keep some creditors at bay ... for a while at least.
In this article
What is an automatic stay?
A stay, in legal parlance, is a decree or a court order that suspends the execution of some legal proceeding. A stay can be either temporary or permanent. Temporary stays are typically granted while the court considers an application for a more permanent stay. In bankruptcy cases, the bankruptcy court issues an automatic stay upon filing a bankruptcy petition by the debtor requesting protection under Chapter 7 or Chapter 13 of the U.S. Bankruptcy Code.
- Chapter 7 bankruptcy: This type of bankruptcy will discharge your unsecured debts like credit card debt and medical bills.
- Chapter 13 bankruptcy: Think of a Chapter 13 filing as more of a rehabilitation plan. No debts are discharged, but you're put on a plan to repay your creditors over the next three to five years.
A debtor files for bankruptcy for various reasons, but this debt relief option provides adequate protection to assets like real estate, vehicles, and the borrower's wages.
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What does an automatic stay do?
Once an automatic stay is issued, creditors, including any debt collectors, are prohibited from continuing any collection efforts against the debtor. The automatic stay prohibits the creditors from:
- Continuing attempts to collect the debt
- Garnishing the debtor's wages
- Foreclosing on the debtor's property
- Stopping payments to the trustee appointed in the bankruptcy case
- Going after the debtor's non-exempt assets
- Removing or taking possession of debtor's personal property
- Conducting eviction proceedings
- Placing a lien on real estate
- Levying on the debtor's bank account
- Charging interest on past-due amounts
- Selling personal property
- Performing credit checks
The automatic stay also provides that any pending legal actions stay for this period as well. Certain activities may be exempted by the bankruptcy court and require specific court approval before they can be performed. Examples of exempt activities include repossessions of motor vehicles, distraint of rents and utilities, and the execution of judgments obtained against the debtor before the commencement of the bankruptcy proceedings.
During the automatic stay period, a debtor may continue to operate any business that the debtor is authorized to operate under state law. All post-petition deposits received by the debtor are valid as payments to creditors and are not recoverable by the trustee in bankruptcy. The trustee does not have the right to control how debtor-owed funds are invested or used as long as the debtor is acting in good faith and is not acting with an intent to defraud or hinder, delay or defraud any creditor.
Here are a few main things an automatic stay can do:
Stops collection efforts
An automatic stay prohibits creditors from attempting to collect on the debt from the filing date until the bankruptcy case is completed or dismissed (through either a discharge or dismissal order). Creditors are prohibited by law from attempting to collect any debts owed before the filing date or the first date a creditor received notice of the petition through the closing of the bankruptcy case, whichever is later.
No wage garnishment
A creditor cannot garnish a debtor's wages or take money directly from a bank account during the automatic stay unless the creditor obtains an order from the bankruptcy court. Once the automatic stay is terminated, the creditor can resume garnishments.
If the creditor is not a party to the automatic stay litigation, it generally has no standing to intervene and file a motion to terminate or modify the automatic stay. However, if an individual or entity wishes to intervene in a lawsuit to terminate the automatic stay, it must be joined as a party in the lawsuit by the bankruptcy court to exercise its right to petition for relief from the automatic stay during the litigation.
Protects rights
An automatic stay protects the rights and assets of debtors and creditors and allows them to work out a financial reorganization plan rather than resort to liquidation.
Under the bankruptcy code, there are three creditor claims: secured, priority, and general unsecured. A claim is secured only if a lien secures it on the debtor's property or rights to the property, securing an indebtedness. Priority claims are those entitled to payment ahead of general unsecured claims. So if all of the debtor's assets are liquidated, and there is no money left over to pay all claims, priority claims will be paid the full amount of their claim, while general unsecured claims will receive partial payment.
An automatic stay protects the rights of unsecured creditors by providing a clear debt repayment process without court system interference. It prevents debtors from concealing assets or transferring them to other non-debtor entities before the commencement of bankruptcy proceedings. However, the automatic stay only applies to actions brought by creditors. Rights in the automatic stay can be waived under certain circumstances. For example, suppose a creditor extends credit to a debtor after the petition has been filed, and the credit agreement contains a waiver of the protections of the automatic stay. In that case, the lender will be entitled to take immediate collection action against the debtor despite the automatic stay.
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How does an automatic stay work?
As a general rule, automatic stays go into effect once a bankruptcy petition is filed and remains in effect until the case is closed or a discharge is granted to the debtor. This prevents creditors from taking any action to collect debts from the debtor while the bankruptcy case is pending.
However, there are certain situations where the automatic stay does not apply. For example, the stay does not apply to the following actions:
- An action to recover taxes.
- An action by the trustee to recover fraudulent conveyances made by the debtor.
- The enforcement of a judgment obtained before the commencement of the case under applicable non-bankruptcy law.
- Certain criminal proceedings against the debtor.
While the automatic stay applies to most debts, certain types of debts are exempt from the automatic stay. These exempt debts include obligations in divorce proceedings, student loans, alimony or child support payments, and some tax obligations.
How long does an automatic stay last?
In most cases, an automatic stay is imposed that stays all collections activity against the debtor and all actions against the property of the debtor, including foreclosure actions and sales, evictions, attachments, etc., for a few months if you filed for Chapter 7 and up to five years for Chapter 13 petitions.
But there's bad news for serial filers: If you've been filing bankruptcy often or have filed for one in the past year, the automatic stay may only remain in effect for 30 days. If you have any pending cases against you, there's a likelihood that the court may not grant an automatic stay at all.
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The bottom line
An automatic stay halts all collection activities against the debtor while the case is pending and prevents the bankruptcy court from issuing a discharge until the case is concluded. This means collection agencies can't harass you with phone calls. The purpose of the automatic stay is to protect the debtor from creditor harassment while he or she attempts to reorganize his or her finances and pay off debts owed. Creditors may not attempt to collect debts owed to them while the case is pending and may only have recourse through the bankruptcy process to seek repayment of their debts.
However, several exceptions to this general rule allow creditors to take certain actions against the debtor while the bankruptcy case is proceeding. Creditors with claims not covered by the automatic stay must take the appropriate steps to ensure they do not violate the automatic stay during the bankruptcy proceeding.
Before you consider bankruptcy as a solution to your financial ailments, you should consult with a bankruptcy attorney.
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Writer
Jasir Jawaid is Joy Wallet's Assistant Editor. He has more than 13 years of experience as a journalist covering Wall Street, equities, financial policy and regulation, and cryptocurrency and blockchain.
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