Millions of Americans have declared bankruptcy—and with credit card and student loan debt increasing, chances are the number of bankruptcies in America will continue to rise. If your debts have become unmanageable, bankruptcy may be your best option. However, there are lasting consequences, and entering bankruptcy should be considered only as a last resort. Below are some important facts you need to know about bankruptcy.
Types of Bankruptcy: Chapter 7 vs. Chapter 13
Chapter 7 is what most people typically think of when they think of bankruptcy. Essentially, if you declare Chapter 7 bankruptcy, all of your material assets are gathered and sold off to your creditors. Once that happens, your debts are largely erased. However, the situation is a bit more complicated, as you can save some assets from being sold if they are deemed essential to your livelihood. Some funds may also be exempt, depending on the state. Additionally, while you can erase most debts, you cannot erase liens. For example, if you have a lien on a mortgage, you will still be liable for repayment. For most people, Chapter 7 is the preferred type of bankruptcy because it extinguishes the bulk of their debt.
Chapter 13 bankruptcy is less common than Chapter 7. Under Chapter 13, you are expected to pay off some or all of your debt. You work out a plan with the court to pay off your debt over a three-to-five-year period. Once that period ends, any remaining debt is cancelled. The amount you agree to pay under Chapter 13 must exceed what creditors would receive if you liquidated your assets under Chapter 7. Additionally, you must prove that the payment plan is feasible based on your income and show that all of your disposable income is being applied to your debt. While Chapter 13 bankruptcy is typically less desirable for most people, you may need to prove that you can’t afford it before you’re allowed to file for Chapter 7.
Benefits of Going Bankrupt
There are definite advantages to declaring bankruptcy, which is why many people opt for it—though these benefits vary depending on whether you file under Chapter 7 or Chapter 13. Here’s an overview of the pros:
Your debt is cancelled. Under Chapter 7, you get a fresh start, allowing you to repair your finances without overwhelming debt. This option offers many people a freedom they wouldn’t have otherwise. Even better, you’ll be protected from aggressive debt collectors, with your attorney negotiating with them on your behalf during the bankruptcy process.
Some of your assets are protected. Filing for bankruptcy doesn’t mean you’ll wind up homeless—many states allow you to protect your home and car, although these laws have become stricter since the introduction of Chapter 13.
It may improve your credit record. You can’t file for bankruptcy again for six years after your first filing. Creditors may recognize that you can’t file for bankruptcy again anytime soon, which might actually improve your chances of getting loans.
Disadvantages of Bankruptcy
That said, declaring bankruptcy comes with serious, long-lasting consequences. If you’re seriously considering bankruptcy, here’s an overview of what you’ll have to contend with:
Difficulty getting loans. You will likely still be able to get loans and credit cards after filing for bankruptcy, but lenders may charge extremely high rates. This isn’t necessarily a bad thing, since debt is what got you into trouble in the first place. However, people with a bankruptcy record rarely get mortgages—especially within five years of their filing.
A stain on your record. Bankruptcy stays on your credit report for ten years, which means your loan difficulties will continue for that long.
You’ll still have some debt. You cannot discharge back taxes or student loans by declaring bankruptcy. These will still be your responsibility under both Chapter 7 and Chapter 13 bankruptcy.
The decision to declare bankruptcy is often agonizing—and should only be considered as a last resort. But if you truly can’t pay your debt, it may be your best or only option. Rest assured, you can survive a bankruptcy, especially if you’re young and haven’t accumulated much in the way of assets yet. Be sure to take your time considering this decision, and consult a lawyer if possible.
