CREDIT CARD HELP: The basic fundamentals of credit cards
14 key factors when considering bankruptcy
By Dana Dratch
No one ever plans to go bankrupt.
Highlights from this Credit Card Help story
- There are two main types of personal bankruptcy.
- Consumers don’t use bankruptcy frivolously.
- Where you live matters.
- You get to keep some assets.
- The two types of personal bankruptcy are very different.
- You have to qualify for a Chapter 7.
- Bankruptcy is not cheap.
- You may be able to get free or low-cost legal help.
- Bankruptcy goes on your credit history.
- It may not make your credit any worse.
- A bankruptcy doesn’t protect joint account holders.
- It’s public.
- You’ll have to go to class.
- It can pay to be proactive.
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It’s like pushing a financial reset button. And for filers, that fresh start comes with its own set of gifts and liabilities.
If you’re considering bankruptcy, or just want to know more about it, here are 14 key factors to consider:
1. There are two main types of personal bankruptcy.
Chapter 7 allows the filer to walk away from debts entirely. This option is used by those whose debts are so high or income so low that after basic expenses they don’t have the money for a payment plan. Chapter 13 allows the filer to draft a plan to repay all or part of the debts over three to five years.
2. Consumers don’t use bankruptcy frivolously.
People turn to bankruptcy when they have major life events that significantly reduce their income, increase their bills or both, says Henry Sommer, past president of the National Association of Consumer Bankruptcy Attorneys. The most common reasons for bankruptcy: divorce, unemployment and medical bills, says Sommer. “In 50 to 60 percent of cases, there are medical problems present,” he says.
Filing bankruptcy also halts, at least temporarily, collection attempts and foreclosures. If you’re unemployed or recently re-employed but facing foreclosure because of missed payments, Chapter 13 can help you save your home, says Sommer. “In fact, it’s one of the most common uses for Chapter 13,” he says.
The reason: If you can afford your mortgage payments on your salary (or expected salary), Chapter 13 allows you to repay missed payments over three to five years. It can also stall a foreclosure long enough for you to get re-employed.
3. Where you live matters.
When it comes to which assets you can keep in bankruptcy, rules vary widely by state. In addition, income and expense limits used for determining whether you qualify for a Chapter 7 will vary by location. Also attorney’s fees and filing fees will vary.
4. You get to keep assets.
Filing bankruptcy doesn’t mean giving up all your possessions. You keep your personal property, such as clothes, electronics, household furnishings and other exempt assets. Depending on your state laws, the type of bankruptcy you file, and your finances, you can sometimes retain larger assets, such as cars and the family home.
5. The two types of bankruptcy are very different tools.
If you were out of work and got behind on the house payments but can now meet your mortgage, a Chapter 13 might be your best option. If you don’t own a home but are struggling with medical bills, then Chapter 7 might be a better choice. Like any major financial decision, you need to gather information.
Write down the assets that are important to you, and what you need to get from your bankruptcy. When you talk with an attorney, go through the list and find out how the two types of bankruptcy (combined with the laws in your state), would impact each item.
6. You have to qualify for a Chapter 7.
Consumers must show through income (if they are below the state median) or through both income and expenses (if they are above the state median) that they can’t repay their debts.
But since bankruptcy is often a last resort, filers who need Chapter 7 are having no problems qualifying, Sommer says.
One source for local bankruptcy attorneys: NACBA.org.
With a Chapter 13, you can include bankruptcy costs in your plan and pay them over three to five years. With Chapter 7, that’s not an option.
And initial consultations are usually free, so don’t be afraid to interview several attorneys and let them know price is a factor, says Todd Mark, vice president of education for the Consumer Credit Counseling Service of Greater Dallas.
8. You may be able to get free or low-cost legal help.
Some law firms may have discount programs, so ask about the option, says Mark. In addition, the bar association might have a list of firms that do low-cost or pro bono work. And your local legal aide office might be able to help.
Some cities, including Philadelphia, have organizations such as the Consumer Bankruptcy Assistance Project, which help low-income consumers.
One tip: Avoid nonlawyers who say they can help with a bankruptcy, says Sommer, who is a supervising attorney with the project. Instead of saving money, “you can end up losing several times that amount,” he says.
9. Bankruptcy goes on your credit history.
The safe rule of thumb: A bankruptcy will stay on your credit history about 10 years, says Mark. But the older that bankruptcy is, the less power it has to scare lenders and impact your credit score.
10. It may not make your credit any worse.
If you’ve had financial problems (chronic late and missed payments, charge-offs, etc.), it might not have much of an effect. And you could actually see your credit improve a year or so after bankruptcy, says Sommer.
In general, you can be considered for an FHA loan about a year after a Chapter 13 and about two years after a Chapter 7, says Mark. For a conventional loan, it would be about twice that, he says.
11. A bankruptcy doesn’t protect joint account holders.
A bankruptcy dissolves your obligation to a creditor. But if anyone else is also on the hook for one of your debts, such as a joint account holder or co-signer, your bankruptcy makes that bill his or hers alone. And that’s a situation that commonly occurs after a divorce, says Rick McElvaney, program director for the Center for Consumer Law at the University of Houston Law Center.
Best bet: Before you finalize a divorce, pay off bills or have the obligations transferred into the name of one party or the other.
12. It’s public.
“Many people believe that since bankruptcy involves personal financial information, it involves privacy,” says Jack Williams, co-author of “Tax Aspects of Bankruptcy Law and Practice.” “It’s public information. The world, if they’re interested, can see everything about your financial situation in the last few years.”
On the plus side, unless you’re a famous name, few (if any) will care.
13. You’ll have to go to class.
Before you file, you’ll be required to take a 90-minute credit counseling class, says Mark. Later, before your bankruptcy is officially concluded, you’ll take a second, two-hour session. You can attend in person, by phone or online. Cost: no more than $50 per class. And if you’re receiving free or discounted legal services, or you’re living on Social Security disability payments, you can get the fees waived.
Having that information early can help you make strategic decisions. For instance, many experts recommend waiting until the situation causing your financial crisis (job loss, medical problem) is over or at least stabilized before you file, so that you don’t just rack up more bills. In some situations, consumers need the immediate protection from foreclosure or collection that bankruptcy provides. Knowing your options early can help you better navigate your situation.