The Difference Between Default and Bankruptcy:
Rarely does a person file for bankruptcy without already having defaulted on at least one credit account. So, if a person defaults on an account, meaning they have failed to repay it as agreed, they have taken the first slippery step toward bankruptcy. That doesn’t mean the person will declare bankruptcy, but they are a step closer to it. A default occurs with only one account. The problem is that when a person has serious difficulty with one debt, they often are struggling with their other debts, as well.
Bankruptcy is among the worst things that can appear in your credit report. When you file for bankruptcy, you are telling all of your lenders that you will not be able to pay them in full, or at all. As a result, it will be very difficult, if not impossible to qualify for new credit while the bankruptcy appears on your credit report.
Considering Bankruptcy:
A bankruptcy showing up on your credit is considered a very negative occurrence in regards to your credit scores and one thing is for certain; you can expect a rather large drop in your current scores. Typically, someone with a score in the mid 700s might see their score fall by 100 points or more. Listed below are a few things to consider before filing for bankruptcy.
• Do your homework. There are several things to think about when considering bankruptcy, such as choosing the type of bankruptcy (Chapter 7 or 13) that's right for you based on your ability to repay your debts, the type of debts you have, and the impact that bankruptcy will have on your future financial picture.
• Consult with a bankruptcy attorney or a reputable debt counseling service. Because bankruptcy is an important decision that will affect many aspects of your life for years to come, it is highly recommended that you consult with a bankruptcy attorney. You may also want to consult a "legitimate" non-profit debt counseling service as an alternative to bankruptcy, as they may be able to arrange a special debt repayment plan with your creditors. Be careful, however, as there are many dishonest debt management companies that charge high fees and provide very little, if any, value toward resolving your credit problems.
Bankruptcy and How It Affects Your Credit:
One of the great myths about bankruptcy is that it erases bad credit history. It doesn't.
A bankruptcy will always be considered a very negative event by your credit scores. How much of an impact it will have on your scores will depend on your entire credit profile. For example, someone that had spotless credit and very high credit scores could expect a huge drop in their scores. On the other hand, someone with many negative items already listed on their credit report might only see a modest drop in their scores.
Another thing to note is that the more accounts included in the bankruptcy filing, the more of an impact on your score.
While there are many things to consider when considering filing for bankruptcy, you can expect it to impact your score for as long as the bankruptcy is listed on your credit report.
What's The Purpose of Filing Bankruptcy?
One of the primary purposes of bankruptcy is to discharge certain debts to give an honest individual debtor a "fresh start." This means the debtor has no liability for the discharged debts.
Declaring bankruptcy frees you from paying all or part of the debt you owe. These accounts will be updated in your credit report to show “Included in Bankruptcy.” However, the accounts will not be deleted from your credit report.
Credit accounts may be deleted at different times depending on their status prior to being included in bankruptcy.
For example, an account that was current when you declared bankruptcy will remain on file seven years from the date it was included in bankruptcy; whereas an account that was in collection when you declared bankruptcy, will be deleted seven years from the original delinquency date that led to the charge off.
Bankruptcy isn't a “fix” to escape a bad credit history. It doesn't erase your credit report so you can start over with a clean slate. However, it does stop collectors and creditors from calling, which can take a huge weight off of your shoulders.
5 Most Common Types of Bankruptcies:
• Chapter 7: Also known as liquidation, allows individuals or businesses to give up nonexempt assets and walk away from most debts. To qualify, debtors must pass the means test, which means their income must be less than their state's median income. In addition, you must have received a briefing from an approved non-profit budget and credit counseling agency within the 180-day period before you will be permitted to file bankruptcy.
• Chapter 9: This type works like Chapter 11 and allows municipalities to reorganize debt.
• Chapter 11: Also known as reorganization, this type of bankruptcy is for individuals and more commonly, businesses to restructure debt. Similar to Chapter 13, in that it allows the filer to draft a plan to repay some debt while retaining assets. Chapter 11 is much more complicated, and therefore expensive, making it financially feasible mainly for businesses and very wealthy individuals.
• Chapter 12: Allows family farmers and fishermen with regular income to reorganize debt. It works very much like Chapter 13, but usually stretches out over three years.
• Chapter 13: For individuals who need to restructure their debt load. Some creditors will be paid back in full with interest, others in full and the remainder will be repaid a percentage of the debt. Also used by creditors who do not qualify for Chapter 7 under the means test. Under this chapter, debtors propose a repayment plan to make installments to creditors over three to five years. If the debtor's current monthly income is less than the applicable state median, the plan will be for three years unless the court approves a longer period "for cause." Chapter 13 offers individuals an opportunity to save their homes from foreclosure. By filing under this chapter, individuals can stop foreclosure proceedings. The automatic stay stops the foreclosure proceeding as soon as the individual files the chapter 13 petition. It may cure delinquent mortgage payments over time also. Nevertheless, debtors must still make all regular mortgage payments that come due during the Chapter 13 plan, on time. Finally, Chapter 13 acts like a consolidation loan under which the individual makes the plan payments to a Chapter 13 Trustee who then distributes the payments to the creditors. Debtors will have no direct contact with their creditors while under Chapter 13 protection.
The New Bankruptcy Means Test:
With the new bankruptcy law in effect since October 17, 2005, there is a lot of confusion with regard to the new "means test" requirement. The means test will be used by the courts to determine eligibility for Chapter 7 or Chapter 13 bankruptcy.
Prior to the inception of the "Bankruptcy Abuse Prevention and Consumer Protection Act of 2005", the most common reason for someone to file under Chapter 13 was to avoid the loss of equity in their home or other property. While equity protection will continue to be a big reason for people to choose Chapter 13 over Chapter 7, the new rules will force many people to file under Chapter 13 even if they have NO equity. That's because the means test will take into account the debtor's income level.
Bankruptcy Law Changes Did Not Affect Credit Reporting:
Changes to the bankruptcy law focused on the rules for filing bankruptcy and what chapter a person could declare. The changes had no effect on credit reporting. The Fair Credit Reporting Act (FCRA) specifies how long bankruptcy can remain on your credit report. The section governing bankruptcy reporting hasn’t been changed since the FCRA was enacted in 1971.
Bankruptcy can be reported for up to 10 years from the filing date. By policy, the credit bureaus report Chapter 13 bankruptcy for seven years, because it includes partial debt repayment. Chapter 7 bankruptcy remains for 10 years from the filing date because none of the debt is repaid.
The discharge date has no bearing on when information is deleted from the credit report. Basically this means that the accounts that were included in the bankruptcy drop off 7 years after the date of their last activity, but the “act” of the bankruptcy itself, remains on your credit for 7-10 years.
Re-affirmation of Debt:
Depending on individual circumstances, if a debtor wishes to keep certain secured property (such as an automobile), he or she may decide to "reaffirm" the debt. A reaffirmation is an agreement between the debtor and the creditor that the debtor will remain liable and will pay all or a portion of the money owed, even though the debt would otherwise be discharged in the bankruptcy. In return, the creditor promises that it will not repossess or take back the automobile or other property so long as the debtor continues to pay the debt. Secured creditors may retain some rights to seize property securing an underlying debt even after a discharge is granted.
If the debtor decides to reaffirm a debt, he or she must do so before the discharge is entered. The debtor must sign a written reaffirmation agreement and file it with the court.
Debts Not Allowed To Be Discharged in Bankruptcy:
An individual receives a discharge for most of his or her debts in a Chapter 7 bankruptcy case., which means a creditor may no longer initiate or continue any legal or other action against the debtor to collect a discharged debt. But not all of an individual's debts are discharged in Chapter 7:
Debts not allowed to be discharged include:
• debts for alimony and child support
• certain taxes
• debts for certain educational benefit
• over-payments or loans made or guaranteed by a governmental unit
• debts for willful and malicious injury by the debtor to another entity or to the property of another entity
• debts for death or personal injury caused by the debtor's operation of a motor vehicle while the debtor was intoxicated from alcohol or other substances
• debts for certain criminal restitution orders
• government student loans
What Is A Discharge in Bankruptcy?
A bankruptcy discharge releases the debtor from personal liability for certain specified types of debts. In other words, the debtor is no longer legally required to pay any debts that are discharged. The discharge is a permanent order prohibiting the creditors of the debtor from taking any form of collection action on discharged debts, including legal action and communications with the debtor, such as telephone calls, letters, and personal contacts.
Although a debtor is not personally liable for discharged debts, a valid lien such as a charge upon specific property to secure payment of a debt (such as an automobile loan), will remain after the bankruptcy case. Therefore, a secured creditor may enforce the lien to recover the property secured by the lien.
When Does the Bankruptcy Discharge Occur?
The timing of the discharge varies, depending on the Chapter under which the case is filed.
• In a Chapter 7 (liquidation) case, for example, the court usually grants the discharge about four months after the date the debtor files the petition with the clerk of the bankruptcy court.
• In individual Chapter 11 cases, and in cases under Chapter 12 (adjustment of debts of a family farmer or fisherman) and 13 (adjustment of debts of an individual with regular income), the court generally grants the discharge as soon as practicable after the debtor completes all payments under the plan.
• Since a Chapter 12 or Chapter 13 plan may provide for payments to be made over three to five years, the discharge typically occurs about four years after the date of filing.
Note: The court may deny an individual debtor's discharge in a Chapter 7 or 13 case if the debtor fails to complete "an instructional course concerning financial management."
The bankruptcy law regarding the scope of the Chapter 13 discharge is complex and has recently undergone major changes. Therefore, debtors should consult competent legal counsel prior to filing regarding the scope of the Chapter 13 discharge.
What Does a Dismissal Mean in Bankruptcy?
Dismissal means the termination of the case without either the entry of a discharge or a denial of discharge. After a case is dismissed, the debtor and the creditors have the same rights as they had before the bankruptcy case was commenced. Dismissal is the penalty for many essentially minor infractions of bankruptcy procedures under the 2005 amendments.
Re-establishing Credit after Bankruptcy:
After the bankruptcy, you'll want to begin re-establishing your credit as soon as possible. Hopefully you had pretty good credit scores prior to filing for bankruptcy, so you likely understand how to establish credit. Unfortunately, you may have fewer options now than you did when starting with credit, simply because some lenders and credit issuers may deny an application when a bankruptcy is listed on your credit report. However, this is not always the case. Credit card issuers know that you cannot file bankruptcy again for 8 years, so you may just find yourself getting credit card offers in the mail as soon as your bankruptcy is discharged. Make sure you sift through them and with any luck there will be a couple that do not charge annual fees or high interest rates.
If you cannot obtain credit the traditional way, a good alternative is to obtain a secured credit card. This type of credit card typically includes a credit limit equal to what you've deposited with the card issuer, so it's a bit different than a traditional unsecured credit card. When applying for a secured credit card, make sure the card reports your payment history to the bureaus. This way your good payment history will be factored into your score. Check out local credit unions in your area for this type of card, as credit unions typically charge low rates and fees.
In addition to the re-establishing of your credit history, the only other "cure" for a bankruptcy is time. So, be patient and make sure that you continually pay all of your bills on time. By doing so you will gradually see your credit scores begin to recover from the initial drop.
How Can I Minimize the Negative Effect of a Bankruptcy?
A bankruptcy is going to be factored into your credit scores until it falls off of your credit report. While it may take up to ten years for a bankruptcy to fall off of your report, the impact of the bankruptcy will lessen over time.
If you plan to file a bankruptcy, here are some things you should do to make sure your creditors are accurately reporting the bankruptcy filing:
• Make sure your creditors are accurately reporting the bankruptcy filing. To ensure accurate reporting by your creditors, you'll need to check your credit report after you file the bankruptcy to make sure that only the debts that were actually included in the bankruptcy filing, are being reported as discharged through bankruptcy. Another thing you'll want to verify is that all of the accounts that ARE included in the bankruptcy show a balance of zero.
• Note the date that your bankruptcy was filed. The credit bureaus have specific rules for when a bankruptcy should be removed from your credit report. In general, Chapter 7 bankruptcy remains for 10 years and completed Chapter 13 bankruptcies remain on your credit for 7 years. You don't need to count down the days until the bankruptcy falls off of your credit report, but you should know approximately when it should removed or "purged" from your credit report. Make sure to follow up with the bureaus to make sure that happens.
How Long Until I Can Get A Home Loan After Bankruptcy?
Fannie Mae Waiting Period—Chapter 7
The rules from Fannie Mae have not changed. It is a 4 year period of how much time must elapse after a Chapter 7 Bankruptcy. The 4 year period can start on either the discharge or dismissal date. The exception for extenuating circumstances is 2 years.
Fannie Mae Waiting Period—Chapter 13
Again, the rules from Fannie Mae have not changed. It is a 2 year period of how much time must elapse after a Chapter 13 Bankruptcy. The 2 year period can start on either the discharge or dismissal date.
In the case of multiple bankruptcies, the current rules that have just been added require a 5 year waiting period from the most recent discharge or dismissal date.
The exception for extenuating circumstances in the case of multiple bankruptcies is a 3 year waiting period from the most recent discharge or dismissal date.
Accounts Are Not Removed Immediately After Bankruptcy:
Neither declaring bankruptcy nor completing a bankruptcy plan will cause the accounts included in the bankruptcy to be deleted from your credit report.
When you declare bankruptcy, the bankruptcy filing is added to your credit history from the public record, and the status on each of your accounts is updated by your creditors to indicate they are included in the bankruptcy.
If a creditor does not report that status to three major credit reporting agencies, you can provide a copy of your bankruptcy Schedule A, which lists all of the accounts included in the filing. The credit bureaus can then update the account status for you.
The accounts still will be deleted seven years from the original delinquency date of each account. The original delinquency date is the date the account was first reported delinquent and after which was never again current.
The public record entry of the bankruptcy filing will remain on your credit report either seven years from the filing date for Chapter 13 bankruptcy, or 10 years from the filing date for Chapter 7 bankruptcy.
As a result, the accounts may be deleted before the bankruptcy filing, regardless of the bankruptcy chapter, but they will not be removed immediately.
Can My Boss Fire Me For Filing Bankruptcy?
No. The law prohibits any employer from discriminating against you because you filed bankruptcy.
Spouse’s Bankruptcy Should Not Affect Your Credit Report:
If your spouse declares bankruptcy independently, it should have no effect on your credit history.
When an account is reported by your creditor as included in bankruptcy, the credit reporting agencies scan your credit history for the public record entry showing you filed bankruptcy. If there is no public record entry for the bankruptcy, the “included in bankruptcy” status is removed.
With no bankruptcy filing in your name or account status showing bankruptcy, there will be no record of the bankruptcy on your credit report. However, the account will continue to appear in your credit history along with any missed payments or a charged off status, if either of those have occurred.
The court record will appear on your spouse’s credit history, and the accounts in his or her credit report should indicate they were included in the bankruptcy filing.
Some states do have community property laws that might make it difficult for your spouse to declare bankruptcy independently. The bankruptcy will affect your credit history equally if you must file bankruptcy jointly.
Even if a community property law allows your spouse to file bankruptcy independently, it still could affect your shared assets. While the bankruptcy will not affect your credit history, it could still take away or limit your rights to assets you currently share with your spouse.
On another note, if your spouse declares bankruptcy on an account that you are jointly liable for, that account will show included in bankruptcy on your credit as well. This will only affect your credit to the extent of any delinquencies on the account and if applying for credit, you may have to write the lender a letter of explanation and provide proof that the bankruptcy was filed in the name of your spouse only.
You are encouraged you to talk with your bankruptcy attorney about any community property laws in your state and what those laws might mean to you beyond your credit report.
Can I Discharge My Child Support Arrearages In Bankruptcy?
Back child support cannot be canceled in a bankruptcy proceeding. Once it is owed, it will always be owed, until paid. This rule is based on public policy and is meant to discourage those obligated to pay child support from using bankruptcy to get out of having to pay.
