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How Does Bankruptcy Impact My Credit Score and Financial Future?

When you are facing large amounts of debt, understanding all of your options for getting your finances under control and improving your financial future is important. Depending on the specifics of your situation, options that may provide economic relief include debt consolidation, refinancing, creating a budget, or working with a debt counseling or financial planning expert. When these options fail, however, filing for bankruptcy can be the best option.

Before you rush into filing for bankruptcy, it’s important to understand how the bankruptcy process works, what type of bankruptcy you may be eligible for, what debts might be forgiven, and how bankruptcy can impact your credit score and financial future. If you have questions or want information that’s specific to your case, it’s best to work with a bankruptcy lawyer or financial professional.

The Two Primary Types of Bankruptcy for Individuals

If you are an individual who is thinking about filing for bankruptcy, there are two types of bankruptcy that are most common: Chapter 7 and Chapter 13. You may be eligible for one of them, but not both. Note that the impact that bankruptcy will have on your credit score depends, in part, on which type of bankruptcy you file for.

  • Chapter 7 bankruptcy. A Chapter 7 bankruptcy, also called liquidation bankruptcy, is a type of bankruptcy where your non-exempt assets are liquidated (sold for cash) and that money is used to pay off your creditors to the extent possible; then, any remaining debts are discharged. In order to qualify for a Chapter 7 bankruptcy, you must pass the means test. The means test is a way to determine whether you have the income and assets to go through the Chapter 13 bankruptcy process instead.
  • Chapter 13 bankruptcy. If you do not pass the means test, then your other option for filing for bankruptcy is to pursue a Chapter 13 bankruptcy. Also known as a wage earner’s bankruptcy, in a Chapter 13 bankruptcy, the debtor enters into a repayment plan that lasts for between three and five years. While a debtor will repay a significant portion of their debts in a Chapter 13 bankruptcy before debts are forgiven at the end of the repayment plan, one of the biggest advantages of this type of bankruptcy is that most assets are exempt from liquidation and are therefore protected.

Note that in both types of bankruptcy, not all debts are dischargeable. For example, student loan debt and outstanding support payments from civil cases are usually unforgivable.

How Bankruptcy Will Impact Your Credit Score and Financial Future

While bankruptcy can provide financial relief and help you get the footing you need to start making smart financial decisions moving forward, it’s important to know that there are some consequences of filing for bankruptcy. Most notably, bankruptcy can have a very negative impact on your credit score.

While chances are that your credit score is already pretty low if you’re in a financial position to be filing for bankruptcy, a bankruptcy filing will drop it even further. What’s more, filing for bankruptcy will stay on your credit score for seven years for a Chapter 13 filing and 10 years for a Chapter 7 filing.

Not only will you have a low credit score for the next seven to 10 years if you file for bankruptcy, but you may also have a hard time securing a line of credit or taking out a loan, too. If you want to purchase a home, mortgage lenders will be very hesitant to work with you. This can make it hard to build backup credit after bankruptcy, and may also leave you in a position where you are forced to rent because you cannot secure a mortgage loan.

Finally, depending on the industry in which you work, your employer may have the right to do a financial background check on you and could deny you a job because of a bankruptcy filing on your record.

Always Seek Professional Help When Thinking About Bankruptcy

The specific impact that a bankruptcy filing may have on you depends on the details of your financial situation and the type of bankruptcy you ultimately file for. Before you take any further action, it’s strongly recommended that you consult with a financial professional who is experienced in bankruptcy filings. From financial planners to bankruptcy lawyers, an experienced professional can provide you with the guidance and answers you need to make a smart, informed decision.