Bankruptcy has gotten a negative reputation over the years. But there are many benefits to filing for bankruptcy that don't get as much attention as the drawbacks. Depending on your situation, filing bankruptcy can sometimes be the best course of action.
Bankruptcy has earned a negative reputation over the years. You may’ve heard stories about people losing their property or believe that you’ll never get credit again if you file bankruptcy. Because of these myths, many people think that filing for bankruptcy is bad. This is unfortunate because the truth is that filing a Chapter 7 bankruptcy is sometimes the best way to deal with overwhelming debt.
If you have high-interest rate credit cards or payday loans, you may feel like you’re fighting a losing battle. That’s why bankruptcy laws provide protections for filers so they can get a fresh start without starting over from scratch. In this article, we’ll look at some of the benefits and drawbacks of filing for Chapter 7 bankruptcy.
Why Do People File Chapter 7?
Most people who file a personal bankruptcy case have seen a major change in their financial situation because of unforeseen life events such as:
A permanent decrease in income due to retirement or disability
Divorce or separation
Death of a spouse or family member
Some people may file because they made some poor financial decisions or overused their credit to buy things they couldn’t afford. Others file because they’re buried in debt they can’t pay off in their lifetime, such as debt from predatory payday loans.
The truth is: It doesn’t matter why you file bankruptcy. The bankruptcy court doesn’t judge your reason for seeking debt relief. And your bankruptcy discharge isn’t based on why couldn’t afford to pay your bills. Chapter 7 is available no matter why you need it, as long as you meet the filing requirements.
What Are the Chapter 7 Requirements?
There are several steps in the bankruptcy process. We’ve created this 10-step guide to help each step of the way. But here’s a general idea of the requirements:
Income requirement: Chapter 7 is designed for people who don’t have enough money to pay even a portion of their debts. So to qualify for Chapter 7, you have to pass the means test, which looks at your income. If you make too much to file Chapter 7, you can file Chapter 13 bankruptcy instead.
Course requirements: You’ll have to complete two courses on your way to a Chapter 7 discharge: a credit counseling and a financial management course.
Other requirements: You'll also have to pay a filing fee (or request a fee waiver), file all the required bankruptcy forms, and attend a meeting of creditors with your bankruptcy trustee to get a Chapter 7 bankruptcy discharge.
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The Good and Bad of Filing Chapter 7
Most people find that Chapter 7 gives them the debt relief they need. But there are some drawbacks to consider. Let’s explore both.
Chapter 7 Wipes Out Debt Quickly
There are many different types of bankruptcy, . It’s the one most individuals and married couples file. One reason it’s popular is that it’s the quickest. When you file bankruptcy under Chapter 7, you can get a bankruptcy discharge in as little as 4-6 months. A discharge is the court order that wipes out certain debts.
Most unsecured debt can be discharged in Chapter 7. That’s debt that’s not tied to property. It includes credit card debt, medical bills, personal loans, old utility bills, some old income tax debts, payday loans, and old rent or lease payments. You aren’t required to pay back any of the debts that are discharged in your Chapter 7 case. When you receive the bankruptcy discharge, any debts that are discharged are gone forever. It’s illegal for creditors to try to collect a discharged debt.
A quick note about student loans: Many people believe you can't use bankruptcy to get rid of student loans, but you can. That said, student loans are treated differently than other unsecured debt in bankruptcy. You have to take the additional step of filing an adversary proceeding and prove that repaying your loans is causing undue hardship. This process is more complicated if you have private student loans.
Not All Debts Can Be Discharged in Chapter 7
If you have a lot of secured debt, like a mortgage loan or car loan, Chapter 13 may be a better fit. Also, some types of debt can’t be discharged in Chapter 7. Non-dischargeable debt is debt you can’t get rid of by filing bankruptcy. You can still file bankruptcy if you have non-dischargeable debts like alimony, child support, or manyincome tax debts, but you’ll still have to make your monthly payments on those debts after your bankruptcy.
The upside is that using Chapter 7 to get rid of your unsecured debts may free up money to help you make these other debt payments.
Chapter 7 Stops Creditor Harassment and Lawsuits
As soon as you file a Chapter 7 bankruptcy case, an automatic stay goes into effect. This means creditors must stop trying to collect on your debt. The bankruptcy court sends a notice to all the creditors on your bankruptcy forms to tell them you filed Chapter 7. You may get a few phone calls after you file your bankruptcy case, but once you tell the creditor you filed Chapter 7, the calls should stop.
Also, creditors can’t take further actions to collect debt that’s discharged in Chapter 7 like suing you to collect a debt. This means you don’t need to worry about wage garnishments or liens against your property.
You Probably Get To Keep All Your Property
Most filers also get to keep all their property in a Chapter 7 case because the U.S. Bankruptcy Code protects certain property with exemptions. If you happen to have a valuable piece of property like a house or an expensive car, you’ll need to figure out if you have non-exempt equity in it that’s not protected. But most Chapter 7 cases are “no-asset” cases, so most filers don’t have to give up anything.
Also, because there’s no repayment plan and you don’t have to pay back debts that are discharged, you get to keep your future income. This benefit is very important because it allows you to pay your monthly living expenses and begin saving money for the future.
Your Credit Takes a Hit… But You Can Rebuild It Fast
Some people believe that if they file Chapter 7 bankruptcy, they’ll never qualify for a car loan or credit card again because their credit will be seriously damaged. This myth persists, in part, because Chapter 7 cases stay on your credit report for 10 years. But the truth is that filing bankruptcy will lower your credit score, but only temporarily. Plus, with a clean financial slate, you can begin to improve your credit score as soon as you complete your Chapter 7 case.
People who file Chapter 7 do qualify for loans and credit — sometimes sooner than they think. There are even some bankruptcy-friendly credit cards you can apply for and use to help improve your credit score.
It’s also worth considering that getting behind on your debt payments also causes damage to your credit. Missing payments or using too much of your available credit can really hurt your credit score. Plus, it puts you at risk of serious collection actions like foreclosure, car repossession, or wage garnishment. So you may want to ask yourself which will hurt your credit less — continuing to miss payments or filing for bankruptcy — and which allows you to start rebuilding your credit sooner.
Is Bankruptcy the Best Way To Get a Fresh Start?
The answer to this really depends on you. Chapter 7 and Chapter 13 bankruptcy have helped many people get the fresh start they deserve. But it’s not the right choice for everyone. If you’re not sure where to start on your journey to debt relief, consider scheduling a free consultation with a credit counselor at a nonprofit credit counseling agency.
A credit counselor can lay out your debt relief options, help you budget, and support you in deciding how to best tackle your debt. This could be through bankruptcy or other debt relief options like debt consolidation, a debt management plan, or debt settlement.
If you’re pretty sure bankruptcy is the best option for you, you can use Upsolve’s free filing tool to complete your Chapter 7 forms. If you have questions and need some legal advice, you can contact a local bankruptcy lawyer to see if they offer a free consultation. There are also legal aid organizations in most areas that provide free or low-cost legal help for low-income individuals.
The bottom line is that it’s not bad to file for bankruptcy if that’s the best form of debt relief for you. Bankruptcy has many upsides that aren’t well known: It gives you a fresh start financially and wipes out unsecured debts you may not be able to pay off in your lifetime. It also relieves you of the stress of dealing with lenders and debt collectors. While it may hurt your credit in the short run, so does missing debt payments and using all your available credit. With a little effort and attention, you can rebuild your credit pretty quickly.
- NFCC. (2017, September). The Different Chapters of Bankruptcy Explained. NFCC. Retrieved September 22, 2017, from https://www.nfcc.org/resources/blog/different-chapters-bankruptcy-explained/