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Understanding Bankruptcy and Rebuilding Your Credit

Bankruptcy is a legal process that can eliminate all or part of your debt, but it comes with serious consequences. Understanding the bankruptcy process, including the different options and their ramifications, can help you determine whether the benefits are worth the drawbacks.

How Does Bankruptcy Work?

Bankruptcy is designed to help consumers obtain relief from debt they can’t afford to repay while ensuring that creditors receive some payment based on the borrower’s financial situation and assets. Once you file for bankruptcy, your creditors must halt all collection attempts, including foreclosure, repossession, and wage garnishment. However, only certain types of debt can be included in bankruptcy.

Chapter 7 Bankruptcy

Chapter 7 bankruptcy, also known as straight or liquidation bankruptcy, involves selling off some of your assets to pay off what you can and discharging the rest of your debts. The process typically takes between four and six months, but not everyone qualifies for Chapter 7 bankruptcy. You’ll need to pass a means test or meet certain criteria for low income.

Chapter 13 Bankruptcy

Chapter 13 bankruptcy, also known as reorganization bankruptcy, will restructure your debts in a way that allows you to pay off a portion of what you owe over a period of three to five years. This option allows you to keep your assets and does not require a means test.

Key Bankruptcy Terms to Know

• 341 meeting: A meeting where you’ll be questioned under oath by your creditors or the trustee about your financial situation.
• Credit counseling: Required before you can file for bankruptcy and involves undergoing individual or group credit counseling.
• Discharge: When bankruptcy proceedings are complete, any remaining debt you haven’t paid is canceled.
• Exempt property: Certain assets that may be exempt from sale during Chapter 7 bankruptcy.
• Lien: A legal right for a creditor to hold and sell a debtor’s property as security or repayment of a debt.
• Liquidation: The sale of a debtor’s non-exempt property to pay creditors.
• Means test: A test to determine if you qualify for Chapter 7 bankruptcy based on your financial situation.
• Reaffirmation agreement: An agreement to continue paying a debt that could be discharged in Chapter 7 bankruptcy.
• Secured debt: Debt backed by property, such as a home or vehicle.
• Trustee: An individual or corporation appointed by the bankruptcy court to act on behalf of the creditors.
• Unsecured debt: Debt for which the creditor holds no tangible collateral, such as credit cards.

Debt That Can’t Be Forgiven in Bankruptcy

While bankruptcy can eliminate a lot of debt, it can’t wipe the slate completely clean if you have certain types of unforgivable debt. These include court-ordered alimony, child support, reaffirmed debt, federal tax liens, government fines, and more.

Consequences of Bankruptcy

Loss of Property

With Chapter 7 bankruptcy, you’ll be required to liquidate some of your assets to repay your creditors. Even with Chapter 13 bankruptcy, you may need to sell off certain assets to afford your payments.

Credit Damage

Filing for bankruptcy can have a drastic impact on your credit score. A Chapter 7 bankruptcy can stay on your credit report for 10 years, while Chapter 13 remains for seven years.

Impact on Others

If a loved one cosigned one of the loans you’re including in your bankruptcy, they may be responsible for paying at least some of the debt.

Some Debt May Remain

Not all debts are includable in a bankruptcy filing. While you may get some relief, you may not necessarily get a clean slate.

Pros and Cons of Bankruptcy

Pros

• Stops collection efforts
• Provides financial relief
• Offers a repayment plan that works for you

Cons

• Can ruin your credit
• May result in loss of assets
• No guarantee of qualification or desired results

Getting a Credit Card or Loan after Bankruptcy

After your bankruptcy has been discharged, you can apply for credit again, but it may be difficult to get approved for most loans and credit cards. You may face high interest rates and fees until you’ve spent time rebuilding your credit.

Getting a Mortgage After Bankruptcy

Most home loan programs have a waiting period, which can be anywhere from one to four years from the date of your discharge. Even after the waiting period, you may still end up with a higher interest rate.

How to Rebuild Your Credit After Bankruptcy

Rebuilding your credit after bankruptcy can take several years. Here are some steps you can take:

• Apply for a secured credit card
• Get a credit-builder loan
• Become an authorized user on a responsible cardholder’s account
• Get a cosigner for a loan

Alternatives to Bankruptcy

When you’re struggling with unmanageable debt, bankruptcy is just one possible solution. Here are some alternatives:

Debt Consolidation

If your credit is still in good shape, consider debt consolidation loans and balance transfer credit cards to make payments more manageable.

Debt Management Plan

Work with a credit counselor to arrange a workable plan for repaying what you owe, which can include lower interest rates and monthly payments.

Forbearance or Deferment

Consider asking some of your creditors about pausing your monthly payments for a short period to get back on your financial feet.

Debt Restructuring

Negotiate a temporary or permanent adjustment to your loan agreement, or even a settlement for less than what you owe.

The Bottom Line

Before making any decision about bankruptcy or any other form of debt relief, research your options, get reliable advice from a qualified credit counselor, and understand the impact your choices can have on your overall financial well-being. Be proactive about improving your credit score now and in the future to help minimize the negative consequences of certain relief options.

For any mortgage service needs, contact O1ne Mortgage at 213-732-3074. Our team is here to help you navigate your financial journey and find the best solutions for your situation.

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