Bankruptcy tends to be considered the last option when one has insurmountable financial difficulties. It is a legal process put in place to assist individuals or businesses that cannot pay their due debts. Though bankruptcy can provide one with a clean slate, it does have long-term repercussions. Whether to file bankruptcy is a major decision and one that should be decided after careful consideration of options.
Here's a rundown of when to consider bankruptcy, what it is, and how it can affect your finances.
What is Bankruptcy?
Bankruptcy is a legal process that involves an individual or business that cannot pay his or her bills requesting relief from all or part of what they owe. There are various types of bankruptcy, but the two most common for individuals are:
- Chapter 7 Bankruptcy (Liquidation): In this process, non-exempt assets are sold to pay creditors, and most unsecured debts-for example, credit card debt and medical bills-are discharged.
- Chapter 13 Bankruptcy: A reorganization bankruptcy in which individuals reorganize their debts into an affordable payment plan, usually over 3-5 years.
Filing for bankruptcy has significant financial and legal consequences, so it should only be considered after exploring other options.
Signs That Bankruptcy Might Be the Right Option
While bankruptcy is a serious step, there are situations where it might be the best choice for your financial recovery. Here are some common signs that bankruptcy may be the right path for you:
1. You’re Struggling to Make Minimum Payments
If you’re unable to pay more than the minimum amount due on your credit cards, loans, or other bills, it may indicate that your debt is unmanageable. When the debt keeps growing due to high-interest rates and you’re unable to make significant progress on repayments, bankruptcy may help reset the situation.
2. Your Debts Are Growing Faster Than Your Income
If the burden of your debt continues to grow despite all coping, or if income is no longer enough at least for essential living expenses, bankruptcy opens the door for relief. This can happen when income remains flat or reduces, while on the other hand, expenses are growing like medical bills and emergency costs, and bankruptcy offers the chance of getting back control.
3. Creditors Are Constantly Harassing You
Constant phone calls, collection letters, or legal threats from creditors themselves can be very overwhelming. If you are getting threatened with a lawsuit, garnishment, or wage deductions, bankruptcy stops these actions.
4. You Have Little to No Savings or Emergency Fund
If you’ve depleted your savings trying to stay afloat or have no emergency fund for unforeseen expenses, filing for bankruptcy may be an option to consider. Without a financial safety net, it can be nearly impossible to recover from an unexpected financial crisis.
5. You’re Facing Foreclosure or Repossession
Bankruptcy can provide temporary relief if you are at risk of foreclosure on your home or repossession of your car. It may allow you to retain certain property while reorganizing your debts into an affordable plan; most notably, Chapter 13 bankruptcy.
Types of Bankruptcy for Individuals
Chapter 7 Bankruptcy
What It Is: Also called "liquidation bankruptcy," it involves selling off your non-essential assets to pay off your creditors.
Pros:
- Clears most unsecured debts, such as credit cards and medical bills.
- Faster process; usually completed in 3-6 months.
Cons:
- Non-exempt assets may be sold.
- Affects your credit score for up to 10 years.
Chapter 13 Bankruptcy
What It Is: Called "reorganization bankruptcy," it requires you to come up with a plan for repaying part of your debts over 3-5 years.
Pros: You can keep your property, including your home. You might be able to reduce or even eliminate some unsecured debts.
Cons: You'll have to stick to a repayment plan for several years. It affects your credit score for as long as 7 years.
What Bankruptcy Means for Your Finances
Bankruptcy has long-lasting implications on your financial life, but it may provide a path to emerge from under the burden of overwhelming debt. Here's what bankruptcy will mean for your finances:
1. Impact on Your Credit
Chapter 7: The bankruptcy stays on your credit report for as many as 10 years and greatly affects your credit score.
Chapter 13: Remains on your credit report for up to 7 years. The impact is not as dire compared to Chapter 7, but your credit score will indeed be affected.
2. The Automatic Stay
Upon filing for bankruptcy, an "automatic stay" goes into effect that stops most collection actions, including creditor phone calls, wage garnishment, and lawsuits. This may provide temporary relief as you work your way through the bankruptcy process.
3. Limited Access to Credit
It will be challenging to get any new credit after going through bankruptcy. You may need to create a credit score over time by making timely payments of your other remaining debts, getting a secured credit card, or getting small loans and pay it back on time.
4. Loss of Property
In Chapter 7 bankruptcy, the non-exempt property-for instance, luxury items, second homes, and valuable assets-might get sold in order to pay off creditors. In Chapter 13, you won't generally lose any property, but you may have to catch up on your missed mortgage or car payments.
Alternatives to Bankruptcy
Before filing bankruptcy, there are a number of options that may be more appropriate or less destructive to your long-term financial health. Some alternatives include:
1. Debt Consolidation
You can consolidate multiple debts into one loan with a lower interest rate to help manage payments and reduce debt.
2. Debt Settlement
Other options include debt settlement companies, which negotiate on your behalf with the creditor to settle for a lesser amount than what you really owe. This does, however, have a serious effect on one's credit score.
3. Credit Counseling
Under the guidance of a certified credit counselor, one can devise a debt management plan that consolidates payments into one, thereby making debt repayment easier without necessarily filing bankruptcy.
When Should You File for Bankruptcy?
You must resort to filing for bankruptcy when all other avenues have been tried and not found practicable. If you are being faced with immense debt, which you can't pay off, and have tried debt management, credit counseling, and negotiation with creditors without finding a solution, bankruptcy might be your route to getting a fresh start.
Most often, it's best to talk to a bankruptcy attorney who will review your situation, describe the options available, and walk you through the process to ensure bankruptcy is right for you.
Final Thoughts
While bankruptcy may provide relief from overwhelming debt, one should never make the decision without much contemplation. It brings huge financial and emotional results; however, it does grant a fresh start to those who feel so overwhelmed by their hopeless state of indebtedness. If considering bankruptcy, he should carefully examine his options and consult a professional in taking rebuilding steps once the process is complete.
0 Comments