Credit Repair: Voluntary Bankruptcy
It takes time and careful planning to repair your credit after voluntary bankruptcy, but you can take actionable steps to make it happen.
What is bankruptcy?
Bankruptcy – the very word makes you shudder. Voluntary or not, bankruptcy comes with such a negative stigma that most people refuse to entertain the idea, even when it might be their best option.
Simply put, bankruptcy is:
The legal process an individual (or corporation) goes through when they are no longer able to pay back their outstanding debts.
Related terms include:
Discharged debt – Debt that is no longer yours, the borrower’s (or debtor’s), to repay. Creditors also cannot come after you for this debt.
Voluntary petition – An official form (usually the first) filed in voluntary bankruptcy.
Chapter 7 bankruptcy – One of two traditional types of bankruptcy, a Chapter 7 eliminates debtor’s unsecured debts (medical, credit cards, etc.), but also sets their credit back.
Chapter 13 bankruptcy – The other most common type of bankruptcy, a Chapter 13 is where an employed debtor creates and follows a repayment plan to their creditors (usually over 3-5 years).
Chapter 11 bankruptcy – Primarily used to keep organizations/corporations going. This is not standard for individuals.
Debtor – The person who owes money to creditors.
Insolvent – The debtor who is unable to pay back what they owe.
While not all debt can be cleared through bankruptcy, the vast majority can be.
Voluntary bankruptcy vs. involuntary bankruptcy
There are two key types of bankruptcy:
Voluntary bankruptcy (most common)
Involuntary bankruptcy (much less common)
How does voluntary bankruptcy work?
In the case of voluntary bankruptcy, the debtor files (petitions) the court to clear the majority of their debt. Individuals and businesses can choose this option.
Depending on the type of bankruptcy, the debtor will have to prove their circumstances with different information. This most often includes:
Their income (all sources)
Their debts (all sources)
Standard legal/government forms
A person with lasting financial hardship or an emergency who is unable to pay their debts may choose this option. Voluntary bankruptcy is typically a last-ditch effort to salvage what can be salvaged.
Does voluntary bankruptcy clear all debts?
Short answer: Not all, no.
But the good news is that it clears almost all.
What it doesn’t clear is:
Alimony or child support payments
Tax liens (such as property taxes)
Money you may owe due to injuring another (eg. vehicular injury due to being under the influence)
Student loans (except in special cases)
Debt gained through fraudulent means
Any other debt not listed when filing for bankruptcy
On the other hand, bankruptcy does usually clear the following types of debt:
Medical bills
Credit cards
Property damages (depending on the circumstances)
Most other loans
Can my creditors make me bankrupt?
Unlike voluntary bankruptcy, involuntary bankruptcy is when a person’s creditors try to force the situation and take their debtor to court. Creditors want to get paid, too, after all.
However, this is quite rare for a number of reasons.
For one thing, an involuntary bankruptcy can only happen when the debtor owes a large enough sum to their creditors – it varies. Along with this, there are several other hoops creditors have to jump through to successfully force bankruptcy upon a person.
To keep it brief, the creditor (or group of creditors) must be owed $15,775 (as of 2016) and show proof of all debt.
An involuntary bankruptcy usually occurs only when the debtor could pay back their debt, but refuse to do so. For instance, if the debtor has assets (eg. property) and are using them for personal gain rather than paying what they owe, the creditor may petition for involuntary bankruptcy.
However, involuntary bankruptcy does not usually occur because the creditor, if their case is not strong enough, tend to lose more than they gain. On the flipside, you as the debtor may end up benefiting from it by having your debt discharged.
How to respond to involuntary bankruptcy
When petitioned for involuntary bankruptcy, you have two options:
1) You can choose not to contest it; or
2) You can file an objection within 20 days and the case will go to trial.
3) Or you can try to convert it to a Chapter 13 bankruptcy, which allows you to make a repayment plan rather than lose all (or most) of your assets.
Choosing the right option for you can be tricky. Consider speaking with a bankruptcy attorney or financial advisor if you find yourself in a situation that calls for legal aid.
How much debt do I have to have to file for bankruptcy?
There is no minimum.
If you’re in a situation where you feel like voluntary bankruptcy will bring you greater relief, then you may file at your discretion.
What will I lose if I declare bankruptcy?
If you file for bankruptcy, you may lose such assets as your:
Property/house
Vehicle
Expensive equipment (ie. computer)
These things will then be used to pay off as much debt as possible.
On the other hand, if you file for voluntary bankruptcy the court will give you an “automatic stay” on your credit and existing assets. This essentially is something that (temporarily) freezes all of your debt and prevents foreclosure, repossession and other claims against you.
Can I file for bankruptcy if I have no money?
While there is a filing fee, this can be waived in certain circumstances. Otherwise, it typically costs around $300+.
You may also have to pay for an attorney if you choose to get one. In some cases, they will require payments over time, but you will typically have to finish paying their fees before the case is finalized.
How can I rebuild my credit after voluntary bankruptcy?
Repairing your credit after bankruptcy is a process that takes time, patience and some planning.
The first thing you can do is make a plan for your personal finances.
Establish and follow a personal budget
Manage your personal finances by creating and following a personal budget. Figure out how much money your spending on things like housing (rent, mortgage, utilities), food, entertainment, medical, etc. Then, look for ways to maximize your income.
You may want to become a little more frugal. If, say, you’re spending $500 a month on fun things like movies, extra streaming services, and going out to eat, see if you can cut back by a little - $50, $100. Even a little bit helps.
Get a friend or family member to help keep you on track
It can be tough to swallow your pride and ask for help, but to repair your credit and to prepare you for a stronger financial future, it may be necessary.
Speak with someone you trust about your financial situation and your goal to improve your credit. And ask them to help keep you on track with your income-to-debt ratio.
Remember: You’re absolutely not alone in this. Millions of other people have filed for bankruptcy… and bounced back. You can do it too.
Take specific steps to rebuild your credit – get a loan or secured credit card
This might seem a little counterintuitive at first – after all, you’ve just gone through voluntary bankruptcy. Should you really be getting another loan or credit card?
The thing is, you need more than just time to repair your credit. You also need to be taking positive action to show you can be trusted by future lenders (or creditors) with their money.
In the case of a secured credit card, you don’t have to actually use the card to build your credit back up. Just having it open, with a balance of zero, helps. If you feel okay with it, you can also make small purchases with the card and pay the balance back in full each month.
Added bonus: If you pay off your entire balance monthly and on time, you don’t have to pay interest.
For more info on repairing your credit score, check out this post.
How much will my credit score drop after filing voluntary bankruptcy?
Both involuntary and voluntary bankruptcy can cause an individual’s credit score to drop by as much as 200 points. But it does depend on the starting credit score.
For instance:
If you started with a 700+ credit score, it could drop to the mid-500’s range.
However, if your credit score was in the 600s before bankruptcy, it may still drop to the 500s.
For the most part, it’s safe to assume your credit score will fall into the 300 to 579 range, which is considered poor.
With a poor credit score, your approval odds for any loan or most credit cards are very low. That said, you can still often qualify for a secured credit card or secured personal loans.
How long will it take to repair my credit after bankruptcy?
The bad news:
Bankruptcy stays on your credit report for 7-10 years. Some lenders (banks, credit unions, etc.) will refuse to lend money to anyone with a bankruptcy on their report.
The good news:
There are still options – credit cards, mortgage loans, auto loans, etc.
The best advice is to start rebuilding right away, if possible. The sooner you take steps to showing you are financially responsible, the sooner your credit score will show your creditworthiness to future and potential lenders.
Can I rent or buy after filing voluntary bankruptcy?
Even after bankruptcy, you may still qualify for a mortgage loan, specifically an FHA loan.
Anyone with a credit score of 500 and above can apply – and potentially qualify – for an FHA loan. With a lower credit score (500-579), you will need to be able to put 10% down on the property. But if your credit score is 580 or above, you may only need to put down 3.5%.
If you wait and build your credit back up, you’ll have better approval odds for mortgage loans with more ideal terms.
As for renting, certain landlords may be wary when they see the bankruptcy on your credit report. This doesn’t mean they won’t rent to you, however. While some may decline your application, others will simply require a higher initial deposit (often the first month’s rent and a month’s down).
Besides that, if you are already on a lease and have been consistently making your payments on time, bankruptcy should not impact your ability to stay in your rental property.
Deciding when it’s time to file for voluntary bankruptcy
As far as “debt solutions” go, voluntary bankruptcy is usually a last resort. But there are cases when it is the best course of action.
It may be time to file if:
Your creditors are particularly aggressive and you can’t mange your debt
The amount of money you owe is not only stressful, but also weighing you down and keeping you from pursuing long-term goals
You are making late payments or have defaulted on your loans
Having outstanding debt in the thousands or tens of thousands (or beyond) is a heavy weight. At times, it can feel like your drowning underneath it all.
If you’re not able to make payments on what you owe, it’s not helping your credit score or your mental health as it is. Sometimes it is better to cut your losses.
Additionally, voluntary bankruptcy can lead to a better overall settlement of your debt obligations, while releasing you from a heavy burden.
Financial recovery (including credit repair) after voluntary bankruptcy can seem like such a challenge. And, at the beginning, it may well be.
But that doesn’t mean it’s impossible.
With careful planning and a solid support system – financial advisor, family, etc. – you will recover after voluntary bankruptcy.
In a nutshell
In a voluntary bankruptcy, you need to list all of your assets, liabilities, income sources, expenditure, and so forth. Be thorough.
Bankruptcy does not mean losing everything. You may be able to avoid bankruptcy altogether if your assets are worth more than your debt. Consider selling certain things.
Voluntary bankruptcy can mean discharging nearly all of your debts, but you can also choose to create a repayment plan instead. This may help your credit score as well.
You may need a financial advisor or bankruptcy attorney to assist you in filing.
Your financial institution may offer a free consultation regarding your current financial status, and help you make a new plan for your future.
Start repairing your credit as soon as possible after voluntary bankruptcy. Your credit will thank you – as will your future self.