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Considering bankruptcy? Use the ‘divide by 60’ test

Opening Credits columnist Eric Sandberg

Erica Sandberg is a prominent personal finance authority and author of “Expecting Money: The Essential Financial Plan for New and Growing Families.” She writes “Opening Credits,” a weekly reader Q&A column about issues for people who are new to credit, for

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Question for the expert

Dear Opening Credits,
When you do think it’s OK to declare bankruptcy? I’m at the end of my rope and don’t think I can do this anymore. Every month I struggle, and my debt is barely going down. I’m just so fed up. Yes, I can pay what they’re asking, but I feel like I’m in this nightmare forever. I dream of going to the courthouse and starting over. I appreciate your thoughts on the matter. Thank you. — Candace

Answer for the expert

Dear Candace,
Declaring bankruptcy is not merely a financial decision; it’s personal and emotional. Therefore, I can’t tell you if it’s right for you, but I can help you make that choice. Here is my checklist — developed over many years of talking with thousands of indebted people — to determine whether discharging debt makes sense. If you meet all seven points, then the legal route could be your best course of action.

Point No. 1: You’re allowed to file.
If you have enough money to pay your creditors, you may be ineligible to declare Chapter 7 bankruptcy. How would the courts know? Well, you’d have to complete the paperwork and pass the “means test” created by the 2005 bankruptcy reform law. If you make less than the median income for your state, you’re fine. Yet if your income exceeds that figure, and you have enough left over after paying your necessary monthly expenses to cover some of your debts, you can’t file.

Point No. 2: You don’t see your situation improving in the near future
Now look into the future: Though you’re tapped out and living on the edge today, perhaps you have a better paying job up ahead. Or maybe you’re due to come into money with a gift or inheritance. If your hardship is temporary, and you foresee more cash flowing in the next year, you may want to wait it out. When your circumstances improve, you can apply more to your debts and pay them down much faster.          

Point No. 3: Most of your debts are unsecured
You didn’t mention the types of debt you have, but not all liabilities go away in bankruptcy. Bankruptcy may discharge unsecured debt — credit and charge card balances, medical bills, collection accounts and the like. However, student loans, recent tax debt, many legal bills and child support arrearage are among those you’re stuck with. In addition, the liens on secured debt — think mortgage and car loan — generally pass through bankruptcy unscathed, meaninig your obligation to pay them remains. So assess your liabilities: If the bulk is dischargeable, you meet the measure for this section.


Point No. 4: You understand (and accept) the downside of bankruptcy
Before walking into court, you’re required to get approved bankruptcy education and counseling. These specialized classes, often conducted online, cover what can happen to you if you file. You’ll learn about the damage bankruptcy leaves behind and the type of property you may have to surrender. This counseling will give you the opportunity to gauge whether or not you are comfortable having a bankruptcy notation on your credit report for 10 years. If you understand and are OK with bankruptcy’s consequences, give a check to this section.

Point No. 5: You have no other good options
Bankruptcy may not be the only way out of your “nightmare.” Another legal alternative to Chapter 7 bankruptcy is Chapter 13 bankruptcy. You’d pay your debt — often discharging some — via a three- to five-year court-supervised plan — but get to keep all property. Also look into credit counseling. These nonprofit organizations have arrangements with most major creditors to reduce interest rates, and their debt management plans are designed to get you out of debt in fewer than five years.

Point No. 6: You’re comfortable walking away from your financial obligations
Don’t discount the emotional reaction to bankruptcy. Though many feel relieved afterward, others feel depressed and ashamed. Therefore, take plenty of time to project how you might react to “being bankrupt,” then compare it to how you feel today. Who knows, you may prefer knowing you’re paying your bills to feeling like you “failed.” (Please note that I’m not making a judgment call, just asking you to consider your own emotions.)

Point No. 7: You will be in a better place if you do
Bankruptcy’s big advantage is that it allows filers to reboot and make lasting, positive changes to the way they treat money. The problem? Too many don’t. They make the same mistakes they did in the past and wind up in debt again, fast. So think: If you were to discharge your allowable debts, would you know what to do differently? And are you willing and able to make that commitment?

You should now have a pretty good idea if Chapter 7 bankruptcy is right for you, Candace. While waving obligations goodbye definitely has its benefits, it’s not desirable or appropriate for everyone.

See related:Consider these 14 factors before declaring bankruptcy,  11 tips for dealing with debt collection, collectors, Cure your defaulted student loan in six steps, Tips for finding the right credit counselor, Picking the right debt-help company

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