Will Chapter 7 bankruptcy lower my credit score?

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Written by Jonathan Petts, Esq.  
Updated June 4, 2019

One of the biggest reasons people in the United States are afraid of filing for personal bankruptcy is that they’re afraid it will lower their credit score. Most people who have low credit scores and file for bankruptcy, however, see their credit scores improve. “Low credit score” here refers to credit scores that are under 600. For people who fit this credit profile, it’s also more likely you’ll have access to one or more lines of credit in the year following your bankruptcy.

Studies show that bankruptcy can actually help your credit

Here are the statistics from this study, undertaken by researchers at the New York Federal Reserve.

One year after filing, people who file for bankruptcy open up more unsecured accounts than people in the same financial situation who choose not to file. 55% of people who file for bankruptcy have new lines of credit one year after filing. Compare this with 30% of people in the same financial situation who choose not to file.

Both one and four quarters after bankruptcy, the credit scores of the individuals who go bankrupt are considerably higher than those of the newly insolvent who do not go bankrupt.

Within one quarter of filing for bankruptcy, the credit scores of filers improve by an average of 80 points over people in the same situation who do not file. This difference is 60 points after four quarters.

As you can see, most debtors who file for bankruptcy see their credit situation improve as time passes. Improved credit scores mean that debtors save money in the long run because they do not have to use alternative loan companies, like payday lenders or expensive personal loans. According to MSN Money, a 100 point loss in your credit score can cost you $200,000 over the course of your lifetime.

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How does bankruptcy help improve my credit score?

You may be wondering why filing for bankruptcy can increase your credit score if you have a credit score that is less than 600. There are a few reasons that are easy to understand. First, wiping your slate clean makes creditors realize that you’re more likely to pay them back. Just think of two different people, John and Sam. John is $40,000 in debt and owes three hospitals, four credit card companies, and five friends money. Sam, on the other hand, just filed for bankruptcy so he does not owe anybody. Who are you more likely to give a loan to because you think they’ll pay you back? If you give a loan to Sam, you are going to be the 13th creditor that he owes. If you give a loan to John, you are going to be the only creditor that he owes. Of course you are more likely to give the loan to John, even if he just filed for bankruptcy. Another way to think about credit scores is: “How likely are you to give a loan to this person?”

Another reason that people with low credit scores who file for bankruptcy see their credit score increase after they file is that you can only file for bankruptcy every eight years. One reason credit card companies are afraid to give money to people who have a lot of debt and low credit scores is that they are afraid the person will declare bankruptcy and erase their debt. Credit card companies are not afraid that people who just filed for bankruptcy are going to file for bankruptcy again anytime soon because it is not possible for them to file again for eight years. On the other hand, people who do not file for bankruptcy and have high debt levels still have the ability to file for bankruptcy.

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How can I improve my credit score after bankruptcy?

There are several deliberate steps that you can take to improve your credit score after bankruptcy. Money Crashers provides a seven step guide to rebuilding credit that includes rewriting your budget, only borrowing secured debt as needed, automating your savings, and several others. As long as you’re thoughtful about your finances after bankruptcy, you should be able to access credit in a timely manner.

Unfortunately, despite the data behind the benefits of bankruptcy, many low-income Americans are still afraid to file due to misinformation. As a result, people who decide not to file even though it would improve their credit scores end up having difficult getting credit cards and bank accounts. In many cases, they continue to see their wages garnished and have a tough time finding jobs. At Upsolve, we encourage you to take a look at the data and decide for yourself whether you believe bankruptcy will improve your financial situation.

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Upsolve is a 501(c)(3) nonprofit that started in 2016. Our mission is to help low-income families who cannot afford lawyers file bankruptcy for free, using an online web app. Spun out of Harvard Law School, our team includes lawyers, engineers, and judges. We have world-class funders that include the U.S. government, former Google CEO Eric Schmidt, and leading foundations. It's one of the greatest civil rights injustices of our time that low-income families can’t access their basic rights when they can’t afford to pay for help. Combining direct services and advocacy, we’re fighting this injustice.

To learn more, read why we started Upsolve in 2016, our reviews from past users, and our press coverage from places like the New York Times and Wall Street Journal.

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