Should I File for Bankruptcy?

Bankruptcy is never anyone’s first choice. But if creditors are suing you, garnishing your wages, or threatening foreclosure, bankruptcy might be the tool you need to get back on your feet.

“You want to avoid bankruptcy if you can, but if you have multiple creditors with judgments against you, your credit’s already shot so there’s not much more damage you can do with bankruptcy,” said Marc Merklin, Partner and Chair of the Bankruptcy and Restructuring Group at the law firm Brouse McDowell in Akron, Ohio.

Bankruptcy can reduce or wipe out certain debts, stop harassment from creditors, and give you a fresh financial start. The key is knowing whether your situation calls for it, or whether other options could work first.

When to File for Bankruptcy

There comes a point when juggling bills, dodging creditors, and borrowing just to stay afloat is no longer sustainable. Bankruptcy is designed to protect you when debt has become unmanageable and creditors are closing in. If you’re in any of the situations below, it may be time to seriously consider filing.

You may want to consider bankruptcy if you’re facing any of these situations:

• Creditors are suing you for unpaid debts
• Your home is in danger of foreclosure
• Wages are being garnished or creditors are seizing assets
• You can only pay for necessities with a credit card
• You’re using one credit card to pay another
• You’re considering borrowing from a retirement account to cover bills

When Not to File for Bankruptcy

Just because you’re struggling with debt doesn’t always mean bankruptcy is the answer. In some cases, you may have other options that are less damaging to your credit and future finances. Bankruptcy may be the wrong choice if your situation looks like any of the following:

• You’re only receiving collection letters but no lawsuits or wage garnishment
• Your debt load is temporary and manageable with a second job or expense cuts
• You haven’t explored debt management, consolidation, or settlement options
• You’re able to negotiate directly with lenders for lower payments
• You’re current on secured debts like a mortgage or car loan and just need breathing room
• Most of your debt is student loans, child support, or other obligations that typically aren’t discharged in bankruptcy

Things to Consider Before Filing for Bankruptcy

Before filing for bankruptcy, there are debt-relief options to consider. There are also some things you should avoid. The important thing if you are struggling financially is to understand you may have enough resources to right the ship, and not even realize it.

Talking to a counselor from a nonprofit credit counseling agency is a good first step, no matter what direction you end up going. The consultation is free. In the discussion, the counselor will review your finances and discuss the pros and cons of debt management plans, debt consolidation loans and debt settlement, as well as bankruptcy.

It’s also wise to consult a bankruptcy attorney, even if you plan to file bankruptcy on your own. The initial consultation is free, and you may learn some valuable information about your bankruptcy case.

You may want to consider taking a second job or selling some assets to help pay down debt. Also, take a hard look at your debt. Is there a way to reduce interest or fees? Is it a temporary situation or a longer-term problem?

Also look ahead – if you have a big bill or big series of bills coming due, you may want to hold off until you see the full picture and then decide if you’re going to file for bankruptcy.

There are also some things you shouldn’t do if you’re seriously considering filing for bankruptcy:

• Don’t pay creditors or debt collectors.
• Don’t take on new debt.
• Don’t put anything (house, car, property, etc.) in someone else’s name.
• Avoid unusual transactions (like transferring property to a family member or friend).
• Don’t make payments to creditors you “like” prior to filing – the Court can force return of that payment if you pay one creditor more than $600 in the 90 days prior to filing, or one year if it’s money from friends or family.
• Take out loans shortly before filing.
• Don’t be misled about debt and income.
• Don’t touch your retirement funds.

What Are the Consequences of Bankruptcy?

Consider the consequences of bankruptcy when asking yourself if you should file. Among them:

• Credit score: Your credit score most likely already has taken a beating because of nonpayment, but filing for bankruptcy will hurt it further. It’s impossible to forecast exactly how far it will drop because too many factors are involved, but experts agree: The higher your score, the more you will fall. If you had a credit score above 700, a drop of somewhere around 200 points is likely. If you’re below 700, the drop could be more like 100-150 points. A Chapter 7 bankruptcy will remain on your credit report for 10 years and Chapter 13 will be there for seven years.
• Co-signers: If you have a loan that was co-signed by someone, that means they agreed to pay if you can’t. In Chapter 7 bankruptcy, the co-signer will still be on the hook to pay. Creditors can go after them for payment, even if your bankruptcy case is discharged (successful). Chapter 13 is a different story. The protective stay that prevents creditors from pursuing payments once you file for Chapter 13 extends to the co-signers. The stay remains in effect as long as you make regular payments on your Chapter 13 agreement.
• Private life: Filing for bankruptcy means your name goes public. It’s not going to appear on a billboard downtown, but it is available to anyone with a PACER (Public Access to Court Electronic Records) account. The mandatory meeting with creditors occurs in a public forum and it appears on your credit report, for whomever has access to that. In some areas, it could appear in the legal notices of your local newspaper – though this is no longer widespread.

Can You Keep Your Home After Filing Bankruptcy?

The good news about bankruptcy and your home is that you won’t lose it – as long as you can make the monthly mortgage payments.

Merklin points out that most states exempt the home from consideration up to a certain amount of equity – which in Ohio is about $130,000. That means if your mortgage is less than that number, the home is not part of bankruptcy proceedings. Federal law caps the “homestead exemption” at $189,050 until March 31, 2025. This cap is designed to prevent people from shielding assets by moving to states with unlimited exemptions just prior to filing.

Remember that the purpose of bankruptcy is to give you a chance for a fresh start and it’s a lot easier to start over if you’re not homeless. That’s why bankruptcy laws make homes exempt from creditors’ claims.

However, if living in a house you can’t afford is part (or all) of the reason you’re filing for bankruptcy, then yes, you could lose your home.

If you fall behind on mortgage payments after filing Chapter 7, you can seek protection for your home by filing Chapter 13 to allow you time to catch up. Or, you may have to throw in the towel and let the bank foreclose.

In Chapter 13, it’s a little more complicated, but you essentially return to the default status you were in before declaring bankruptcy. You will also have to make the monthly bankruptcy payment, the mortgage payment and another payment to repay the mortgage company past-due amounts.

Can You Keep Your Car After Filing Bankruptcy?

The bankruptcy system is set up to allow people who file to keep their car. An auto loan is a secured debt – the car is the “security” that you will continue to pay. If you don’t, the lender will repossess your car. Bankruptcy discharges unsecured debt.

If you are still making payments on an auto loan, Chapter 7 allows you to “reaffirm” the loan or buy the car outright. Chapter 13 allows people to continue to pay their car loan under a structured plan, but the payments must be made on time. Being up to date on your auto loan payments when you file for bankruptcy makes it more likely you’ll be able to keep it.

If you are no longer paying for your car, it’s an asset and must be listed with your assets, but you will likely be able to keep it.

Are There Any Benefits to Bankruptcy?

As painful as it may be, bankruptcy can lead to financial stability.

If you can’t find a way to get out of debt in the next five years – and have diligently researched solutions – then bankruptcy may benefit you.

Some of the benefits are:

• A second chance to stabilize finances
• A stop on calls and mail from debt collectors
• Improved long-term financial stability.
• An automatic stay, which halts foreclosures and other legal judgments on money you owe

Everyone’s situation is different, so weigh the pros and cons of bankruptcy as they relate to your financial situation and what you want in the future. Whatever position you’re in, don’t panic. There is a solution. You can’t go to jail just because you owe someone money, so find a way to fix the problem.

Types of Bankruptcy

If you do decide to file, there are two main legal methods, called Chapter 7 for individuals, and Chapter 13 for some individuals and small businesses.

Chapter 7: Often called “liquidation,” this allows you to wipe out many unsecured debts like credit cards and medical bills. A trustee may sell some of your non-exempt assets to repay creditors, but most filers keep essentials like their home, car, and personal belongings.

Chapter 13: Known as the “wage earner’s plan,” this lets you keep your property while repaying part of your debt through a court-approved plan lasting 3–5 years. It’s best suited if you have a steady income and want to stop foreclosure or repossession.

These are the most common forms for individuals. Business bankruptcies typically fall under Chapter 11.

Bankruptcy Alternatives

It’s important to consider all options before filing bankruptcy. As we’ve said, the solution may be available with some careful study. Among the alternative to bankruptcy:

• Talk to your loan officer: Lenders do not want to lose money, so they may well listen if you call and ask for solutions on your debt. It might not work, but the call is free. Simply ask for available options that ensure the lender receives something and you have a less burdensome way to pay your debt.
• Forbearance/deferment of outstanding debts: Forbearance or deferment are temporary solutions that often are used to help with student loans. Deferment is the first option, and it involves delaying payments for periods of six months to three years. Those who face financial hardship could apply for deferment but must work to improve their financial situation while the loan(s) is (are) deferred. Forbearance is typically for those who do not qualify for deferment, which means you can apply to discontinue or reduce the number of payments for 12 months. Lenders must apply forbearance if the monthly loan payment is more than 20% of gross monthly income.
• Debt settlement: Debt settlement approach means negotiating an agreement with a lender to take less than is owed. Some lenders agree because it would receive something for the loan as opposed to a default, but there are serious considerations before taking this road – among them service charges, interest charges and late fees from for-profit debt settlement businesses. This business may promise to cut the loan by 50%, but once their fees and charges are considered the actual reduction is closer to 25%. A similar agreement with a nonprofit debt agency – called nonprofit debt settlement or Less Than Full Balance – typically will not include interest or other charges. Debt is reduced to 50-60% of what is owed, with payments spread evenly for 36 months. This is a new program, and you likely must search to find on that does.
• Increase income/cut expenses: This comes down to individual responsibility and decisions. And it’s important to remember that everything matters. Do you really need three movie channels on the cable package? Can you cut down on expenses for going out to eat? Can you eliminate extraneous subscription costs? All of them add up. Many may be surprised by what they can save when they cut household expenses.
• Make a budget (and stick to it): This is the second part of individual responsibility. Calculating where your money is going and comparing income to expenses can be eye-opening and can help save money. When you create a budget you have taken one of the more important steps in fiscal responsibility.
• Borrow money from friends or family members: A kind and supportive relative or friend could help you out of debt with reduced interest rates, or no interest at all. But if you borrow from family or friends, remember what you’re doing and be sure to repay the debt on time. There’s not much worse than taking advantage of the largesse of those close to you. Nobody wants to anger Aunt Agnes.

Next Steps

The answer to the question, “Should I file for bankruptcy?” depends on your financial situation. It depends on whether most of your debt is unsecured or secured; whether the consequences will do financial damage that will hurt your plans for the future; whether you can see another way to resolve your debt challenges – it’s all up to you.

If bankruptcy is the only choice that makes sense after researching all other options – and if you can’t pay off the debt in 3-5 years, then “Yes” you are a prime candidate to file bankruptcy.

The next steps, which will help guide you through the filing and court process are:

• Hire a bankruptcy attorney. The bankruptcy process is complicated, with many steps, deadlines, and forms to fill out. People who tackle it by themselves often aren’t successful in getting their debt discharged. A bankruptcy attorney generally costs around $1,500 for Chapter 7 and $3,500 for Chapter 13.

» Check here to see if you can reduce the cost of your bankruptcy filing: Low Cost Bankruptcy

• Pre-bankruptcy credit counseling. This is required for anyone filing bankruptcy. Credit counseling can also help you stay on track after your debt is discharged in Chapter 7 bankruptcy, or you’re in a 3-5 year Chapter 13 restructuring plan.

Whether you decide bankruptcy is right for you or not, meeting with a nonprofit credit counselor can help you figure out the best way to attack your debt and rebuild your credit.