When people get married, they often vow to take each other through thick and thin. Bankruptcy can get pretty thick for a husband and wife.
Bankruptcy is when a person or business can’t repay debts and goes to a federal court to find relief, either in discharging the debt or agreeing to a strict repayment plan that lasts 3-5 years.
It is a legal action that raises many questions. The biggest one couples face is how bankruptcy will impact their spouse. The answers range from “not much” to “we’re going to have to eat cold beans for the rest of our lives.”
The deciding factor rests largely on whether you are filing for bankruptcy in a common law property state or community law property state.
Figuring out how to minimize the financial damage in filing for bankruptcy requires knowledge and strategy. Here’s what you should know.
Will Filing Chapter 7 Affect Your Spouse’s Credit?
Chapter 7 is a liquidation sale of stuff you own, with the proceeds going to pay off debt. Items deemed necessary for daily living (car, clothing, appliances, etc.) can be judged exempt from sale.
A court-appointed trustee manages the proceedings. You’ll have a clean financial slate when it’s over, but a Chapter 7 bankruptcy stays on your credit report for 10 years. It will not, however, appear on your spouse’s credit report unless the bankruptcy is filed jointly. That’s the good news.
The bad news is that while your spouse’s credit score won’t be impacted, having a bankruptcy on your record will make it harder to get loans jointly if you want to buy a house, a car, or need lines of credit for other purposes. Lenders will consider you more of a risk.
» Learn More: Buying a House After Bankruptcy
Many bankruptcy attorneys advise against filing jointly if possible. That protects your spouse’s credit score and can help you re-establish credit by letting your spouse co-sign on new debts.
However, in community law states, all property and debt acquired during a marriage is considered shared by spouses, even if one party paid for all or most of it. Creditors can go after that property to pay off the debts.
Will Filing Chapter 13 Affect Your Spouse’s Credit?
A Chapter 13 bankruptcy is a reorganization plan to pay off creditors. If filed individually, it should have minimal impact on the non-filing spouses credit.
In Chapter 13, the filing spouse must submit a repayment plan to the court and show he/she can at least partially pay off the outstanding bills, if given enough time.
If the plan is approved, a bankruptcy trustee will collect the payments and distribute them to creditors. It usually takes 3-5 years to complete the process.
Chapter 13 bankruptcy will stay on the filer’s credit report for seven years. As with Chapter 7, it won’t be on the other spouse’s credit report unless the bankruptcy is filed jointly.
But again, any bankruptcy will make it tougher to get a joint mortgage or other form of credit, since it will be on one of the spouse’s credit reports.
How Bankruptcy Affects Debts Shared With Your Spouse
Filing for bankruptcy impacts your spouse if the debts are held jointly. That will be the case in a community property state, but not necessarily in a common law state.
For example, in common law states, if the husband has $20,000 in credit card debts that are all in his name and the debts are discharged in bankruptcy, which will go on his credit report, not his wife’s. However, if the wife co-signed any of the credit cards, she would be liable for the debts on those cards, even though the husband’s debts were discharged.
In community property states, all debts acquired during a marriage are considered shared 50-50 by husband and wife.
Just be aware that creditors can go after joint bank accounts, cars, or other property where both parties are listed as owners. However, a non-filing spouse should not have their credit damaged because their husband or wife filed for bankruptcy.
How Bankruptcy Affects Property Shared With Your Spouse
Bankruptcy could affect property owned by a spouse, but again it depends on whether you live in common law property state, or community property state.
If you live in a common law property state, the non-filing spouse who owns property individually, should not be affected.
Joint assets, meaning property where both spouses names are on the contract, are another story. They are subject to bankruptcy proceedings.
In community property states, all property acquired during the marriage is shared by husbands and wives, even property that was purchased individually, like a car. So, filing bankruptcy in community property states would have a definite impact on the non-filing spouse, who could be held responsible for the property acquired during the marriage.
» Learn More: Which Assets Are Exempt in Bankruptcy?
Community Property Law
Community property means that all assets acquired during the marriage are shared by the spouses, including debt and property. There is no separation regardless of whether one spouse is listed as the owner of the property.
It also doesn’t matter if one spouse paid for most of the property. Both spouses share ownership equally in the eyes of the court.
So, if one spouse files for bankruptcy, all community property – both husband’s and wife’s – must be listed in the court proceedings.
Nine states adhere to community property law. They are:
Tennessee, Alaska, and South Dakota give residents a choice. They have “opt-in” provisions that allow residents to choose between community property or common property when filing for bankruptcy.
Common Property Law
In common-law states, each spouse owns and controls the property they individually acquire during the marriage. If the spouse buys a car or house individually, it belongs solely to them.
If you’re not in one of the nine community property states listed above, congratulations. You’re in a common law state. That makes it easier to protect your spouse’s assets during bankruptcy.
Filing a Joint vs. Individual Bankruptcy With Your Spouse
The difference between a joint filing and filing bankruptcy without your spouse is pretty self-explanatory. If you don’t have your spouse’s name on the filing, you are filing as an individual.
The tricky part is deciding which would be better for you.
Here are some of the most common factors to consider:
- When all or most of the debt belongs to one person, it’s probably better to file separately. One spouse doesn’t really need protection from creditors. Filing jointly would make them responsible for debts they didn’t incur, which might stress the relationship. It would definitely impact that spouse’s credit report, which also might make for strained conversation around the dinner table.
- When it’s a new marriage, filing separately usually makes more sense. One person might have a lot of debt, and the other might have very little or none. That spouse could (and probably should for the sake of marital bliss) help pay those debts. But he or she shouldn’t be made legally liable for it and the risks that come with that.
- When one spouse is expecting an inheritance or other financial windfall, filing separately is the best option. There’s no need to expose that money to creditors.
- When one spouse is a business owner, filing separately is probably the way to go, though that’s not a sure thing. A lot depends on whether the business is a corporation or sole proprietorship or LLC. You could probably use some advice from a bankruptcy attorney with this one.
- When the couple is filing for divorce, it can get really tricky. Filing jointly will save money on attorneys and other fees, and it might help diffuse arguing over property, but it’s not always in the couple’s best interest. Some property may be worth arguing about, and that’s easier done with separate filings. Chapter 13 bankruptcies take 3-5 years to resolve. Divorced people might want to just get on with their lives and not deal with such long-term commitment.
- When you want to make sure your spouse can file in the near future, go it alone. Anyone filing a Chapter 7 has to wait seven years to file another one. Chapter 13 can be filed only every two years. If you want to avoid those restrictions, file separately.
How To Protect Your Spouse During Bankruptcy
Almost two-thirds of bankruptcies are jointly filed, but that might not be the best plan for you and your spouse. Whatever the right choice is, there are a few basic steps that should help you arrive at it.
- Know your assets. List all your property and other assets. Figure out who owns what and what is jointly owned.
- Know the law is your state. Is it a community or common law state? That will be a big factor in your decisions.
- Get help. Legally, you can file bankruptcy on your own, but bankruptcy is complicated, so hiring an attorney will be money well spent.
- Try not to get emotional. That can be difficult, since you might feel angry at your spouse for financial mistakes, angry at yourself, panicky over your financial future, bewildered by the whole process.
A good bankruptcy attorney should help alleviate some of those anxieties. With the right attitude and the right plan, couples can get through the thick of bankruptcy, and hopefully live happily ever after.
About The Author
Bill “No Pay” Fay has lived a meager financial existence his entire life. He started writing/bragging about it in 2012, helping birth Debt.org into existence as the site’s original “Frugal Man.” Prior to that, he spent more than 30 years covering the high finance world of college and professional sports for major publications, including the Associated Press, New York Times and Sports Illustrated. His interest in sports has waned some, but he is as passionate as ever about not reaching for his wallet. Bill can be reached at [email protected].
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