Risks of keeping one card open during bankruptcy

Issuer may close your card and send account to collector

To Her Credit columnist Sally Herigstad
Sally Herigstad is a certified public accountant and the author of "Help! I Can't Pay My Bills: Surviving a Financial Crisis" (St. Martin's Press, 2006). She writes "To Her Credit," a weekly reader Q&A column about issues involving women, credit and debt, for CreditCards.com, and also wrote for MSN Money, Interest.com and Bankrate.com, and has guested on Martha Stewart Radio and other programs.

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Question Dear To Her Credit,
I recently filed for Chapter 7 bankruptcy. I wanted to keep one credit card, which had a $0 balance the day the bankruptcy was filed. While the bankruptcy was in process, I kept using the credit card, but I was careful to pay off the entire balance every other week, when I got paid.

The other day when I tried to use my card, it was declined. I called to pay off the small balance that I owed, just like I always do, but the card issuer told me that it has already been sold to a collection agency. I asked why, I just paid off some balance a week ago, but the issuer told me that it is because of my bankruptcy.

So, does it mean the remaining balance would be discharged also, even if it was after I filed bankruptcy?  – Leona

Answer

Dear Leona,
It may seem harsh, but it’s true. Banks do cancel credit cards automatically when they learn cardholders have filed for bankruptcy – even if the account with that bank was not affected by the bankruptcy because it had a zero balance.

Many people try to keep one or more credit cards when they are filing for bankruptcy. Keeping a card would be a great idea if it worked, because keeping an existing credit card for a long period of time helps your credit score. Besides, you would avoid the hassle of trying to get a new card after bankruptcy.

Unfortunately, credit card companies take various measures to manage risk. From their perspective, filing for bankruptcy changes your risk level, and they are not obligated to continue their agreement with you under the same terms as before.

Paying off one card before bankruptcy to the detriment of other cards that don’t get paid at all, then, is not generally a good strategy. Not only will it not save your favorite card, but paying too much to one creditor right before you file for bankruptcy could raise the suspicions of the bankruptcy court. The extra payment could be seen as a “preferential payment.” In other words, one creditor gets an unfair proportion of your bankruptcy estate over the others. As a result, your bankruptcy could be disallowed.

The balance on the card you kept is not discharged just because the bank chose to close the account. Only accounts that are part of the bankruptcy case are discharged.

You may no longer have your old card, but you should still be able to get a new credit card now that your bankruptcy is behind you. In some ways, you are actually a better risk after bankruptcy. You no longer have a crushing load of credit card and other debts. Plus, they know you can’t file for Chapter 7 bankruptcy again for the next eight years.

Go ahead and apply for a credit card and start building your credit history again as soon as possible. You may want to begin with a secured card. A secured card is attached to a savings account at the same bank and is relatively easy to get. It also prevents you from sliding into debt again, because you can’t spend more than the amount you have in the savings account.

Be sure you know the difference between a prepaid card and a secured card. The secured card is a real credit card, despite it being attached to a savings account. A secured card helps you build your credit (just make sure the issuer reports payment activity to the credit bureaus), especially as you use it a little every month and keep the balance paid off. A prepaid card, on the other hand, is not really a credit card, and it does not report to the credit bureaus.

In the meantime, contact the collection agency and pay off your closed account. As you continue your good habits of never spending money you don’t yet have and paying all bills on time, every time, your credit history will recover. Congratulations on moving on and starting a new chapter in your life.

See related: Even paid-off cards usually canceled in bankruptcy

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Updated: 11-21-2017