Filing for bankruptcy is a scary mystery to most people. They don’t know how it works and what the consequences are for throwing in the towel.
Besides the financial ramifications, they worry about the stigma and who might find out.
The first bit of advice is Re-Lax.
Your life is disrupted when you file for bankruptcy, but it does not end. You might lose your house and car, and your credit score will nosedive, but bankruptcy offers a fresh start if you’re hopelessly mired in debt. You get a chance to start over and hopefully learn from your mistakes.
It sure beats getting thrown in debtor’s prison, which is what they used to do to people who couldn’t pay their bills. Now all you have to do is file for bankruptcy and stick to the repayment plan.
Chapter 7 is a liquidation bankruptcy and the first choice for most people filing. There were 486,542 Chapter 7 filings in 2017. Most of your possessions are sold, with the proceeds going to pay your debt. The process usually takes three to five months.
Chapter 13 is a reorganization bankruptcy, meaning you come up with a plan to pay off creditors. There were 296,599 Chapter 13 filings in 2017, or almost 200,000 fewer than Chapter 7. In Chapter 13, your assets are not sold, but you must stick to a court-mandated repayment plan that your creditors agree to.
Your total debt is often reduced, but it usually takes three to five years to complete Chapter 13, and every day is likely to be a penny-pincher.
Here are some common questions about both forms of bankruptcy:
Will I lose my home?
Not under Chapter 13. Under Chapter 7, it depends on how much equity you have in house. If you have a lot of equity in it, the trustee could choose to have it sold to pay off creditors.
There are federal and state exemptions, meaning you can protect a certain percentage of the house. The federal maximum is usually $23,675, double that if you are married and file with your spouse.
If you have less than that amount in equity, the court-appointed trustee probably won’t sell your house since it won’t produce enough to pay off much debt. But your lender can still foreclose on the house.
If you have more than $23,677 in equity, the trustee likely will sell your house and you’ll receive the exemption amount. For instance, if your house is sold for $200,000, you’d get $23,677 and the rest will go to pay off your mortgage and other debts.
Other personal property that can be sold includes jewelry, antiques, appliances, furniture, books, musical instruments, almost anything of value. There are also exemptions for those items, and the limit is usually $12,625.
At least they can’t sell your pet. Well, technically pets are property and can be sold. But unless your poodle is Westminster Dog Show quality worth thousands of dollars, it’s unheard of for a trustee to try to sell that or any other critter.
Can I Keep My Car?
If you can continue to make payments on the car, it’s very likely you will be able to keep it. If you can’t keep up with payments, then it depends on how much you owe; what the car is worth; and how much your state allows you to exempt. The amount varies from state to state and could be as low as $500. If your equity is higher than the exemption, the vehicle could be sold and you’ll receive the exempt portion. That is rare.
If you’re behind on payments, your car probably is as good as gone unless you can get the lender to agree to a new payment plan. Then you’ll still face the probability of it being sold by the court-appointed trustee.
How Much Cash Can I Keep?
Not with Chapter 13, but most of the cash on hand will be taken under Chapter 7. Also, if you owe your bank money for a loan, they can take the amount you owe them from whatever money you have in your accounts.
There are some exemptions, like child support payments, alimony and public benefits like Social Security, disability payments and unemployment.
Retirement accounts and pensions are also protected, so at least you won’t have to start dining at the local soup kitchen if you’re over 65 and bankrupt.
Is My Bankruptcy a Public Record?
Only if they’re really nosy.
Bankruptcies are public record, but the information is rarely published unless the filer is famous, like Donald Trump. Bankruptcies are public record, so any member of the public can visit the clerk of the bankruptcy court and ask to see a person’s file.
It’s also possible to access the information via the internet by signing up for a PACER account in the federal court system. But it’s a costly move usually done by bankruptcy attorneys.
One thing to remember is that when you file for bankruptcy you must list all the people you owe money to. No one is bound to secrecy, though the chances of your bankruptcy becoming the talk of the Women’s Club are not anything to lose sleep over.
Will My Employer Find Out?
Not necessarily. The most likely way would be if a creditor has sued you and is garnishing your wages. If the garnishment stops due to bankruptcy proceedings, your employer has to be notified since it cuts your checks.
But if your wages are being garnished, your employer already knows you’re under financial stress and might be relieved you have filed for bankruptcy to start digging yourself out.
With Chapter 13, the court could order that payments be automatically deducted from your wages and sent to creditors. But the bankruptcy code has rules that prohibit employers from discriminating against employees based solely on bankruptcy filings.
How Long Will It Take for My Credit Score to Rebound?
The effect is like a punch in the gut by Mike Tyson. The exact numbers vary, but a good credit score (700 or higher) will likely drop more than 200 points. A lower score will drop between 130 and 150 points. Just about everybody who files for bankruptcy ends up with a credit score somewhere south of 600, some of them way south.
That means you’ll be paying much higher interest rates on loans, assuming you’d even qualify for them.
A Chapter 7 bankruptcy stays on your credit report for 10 years. A Chapter 13 stays on for seven years, but you can rebuild your credit over time by managing your debt smartly.
The best place to start is by making on-time payments and bringing past due accounts up to date. That is the biggest factor in your credit score.
The impact of bankruptcy lessens over time because some of your debt is reduced or discharged. That reduces your credit utilization ratio, which determines 30% of your credit score. FICO estimates it takes about five years for a score that was 680 to fully recover from a bankruptcy filing.
So what’s the better option – Chapter 13 or Chapter 7?
That all depends on your particular situation, though the ideal answer is neither.
Bankruptcy is sometimes unavoidable in the wake of medical emergencies or job loss. Many times, however, it’s the result of poor financial habits.
Come up with a viable budget and stick to it. If you need help, there are nonprofit credit counseling agencies and debt management programs to get you back on track. They might be able to reduce interest rates and monthly payments to a level you can afford. Credit counseling is actually mandated with most bankruptcies, so you might as well get the treatment before you file.
If you stick to the debt management plan, you might not have to file for bankruptcy at all. Then the fear and mystery around filing for bankruptcy will vanish before it ever begins.
About The Author
Bill “No Pay” Fay has lived a meager financial existence his entire life. He started writing/bragging about it seven years ago, helping birth Debt.org into existence as the site’s original “Frugal Man.” Prior to that, he spent more than 30 years covering college and professional sports, which are the fantasy worlds of finance. His work has been published by the Associated Press, New York Times, Washington Post, Chicago Tribune, Sports Illustrated and Sporting News, among others. His interest in sports has waned some, but his interest in never reaching for his wallet is as passionate as ever. Bill can be reached at firstname.lastname@example.org.
- NA. (2017, October 18) Bankruptcy Filings Decline Is Smallest in Years. Retrieved from http://www.uscourts.gov/news/2017/10/18/bankruptcy-filings-decline-smallest-years
- NA. ND. Chapter 13 – Bankruptcy Basics. Retrieved from http://www.uscourts.gov/services-forms/bankruptcy/bankruptcy-basics/chapter-13-bankruptcy-basics
- (NA)(ND). Bankruptcy Basics. Retrieved from http://www.uscourts.gov/services-forms/bankruptcy/bankruptcy-basics
- (Michon, K.) (2016, May 24). Federal Bankruptcy Exemptions. Retrieved from https://www.thebankruptcysite.org/exemptions/federal.html
- (NA) (ND). Protection against discriminatory treatment. Retrieved from https://www.law.cornell.edu/uscode/text/11/525