What You Need to Know About Bankruptcy

Debt happens. Whether you’ve racked up credit card bills, medical debt, or student loans, it can be easy to get underwater with money, and fast.

One way to handle those debts is to file for bankruptcy. While it’s a loaded term, bankruptcy actually can be a useful tool, especially for folks struggling to make ends meet.

The average income of folks who file for bankruptcy is $34,392, according to Debt.org, a website that aims to help Americans understand debt better. Unpaid medical bills are one of the leading causes of bankruptcy, according to the American Journal of Medical Health.

In other words, folks filing for bankruptcy aren’t “lazy” or “bad at money,” as many stereotypes suggest. Instead, they’re average people making lower-than-average income who become saddled with medical bills or other types of debt that they’re unable to pay back.

What is bankruptcy?
Bankruptcy is a legal process that allows you to pay off and eliminate some of your debts. It is intended to allow folks who have racked up too much debt to start with a clean slate.

There are two types of personal bankruptcy: chapter 7 and chapter 13. In chapter 7 bankruptcy, a trustee, who is appointed by the court, will sell your assets to pay back creditors. Chapter 7 bankruptcy protects certain “exempt” assets, like your retirement savings accounts, among other assets.

A chapter 13 bankruptcy filing is not as common as chapter 7. It allows folks who make enough money to create a repayment plan for their debts. They must do so in three to five years.

When should you file for bankruptcy?
If it would take you more than five years to pay off your debts, filing for bankruptcy may make sense. Other reasons it may make sense: your home is at risk of foreclosure, you’re using loans to pay bills, or if you’re being sued by debt collectors.

What is the process like?
Bankruptcy is a legal process, so you’ll want to seek advice from an attorney before filing. A lot of attorneys offer help for free on this matter. You do not need to hire a lawyer, though. You can use this link to figure out what forms you’ll need to file.

When you file, your creditors will no longer be able to ask you to pay them, nor will they be able to file a lawsuit against you for being unable to pay them.

This is called a “stay” on your debts. A trustee will be assigned to your case to help you sell off assets to pay your debts. You will have to share information on your assets, debts, current income and expenses, and other financial information with this person, as well as with the court itself. You may also have to undergo a credit counseling session as a part of the process.

Once this all happens, and your assets have been sold to pay back creditors, the remaining debt will be discharged. This process does cost money, as there are filing and administrative fees.

What debts can they discharge?
Almost any type of debt can be discharged in a bankruptcy case. There are two exceptions: student loan debt, and secured debt. Student loan debt is not discharged in a bankruptcy case. Secured debt is, but it is typically secured against an asset you own. This means that if you default on a loan, or file for bankruptcy, your creditors can take that asset back.

What happens to my credit when I file for bankruptcy?
If you file for bankruptcy, it will affect your credit score. A chapter 7 filing stays on your record for 10 years, while a chapter 13 filing stays on your record for 7. How much it affects your score is dependent on how much debt was discharged. It’s important to note that many loan applications ask if you’ve ever filed for bankruptcy. Even if your credit score no longer shows it, you still have to disclose that.

Are there other options?
Yes, definitely. Debt consolidation, which allows you to roll all of your debts into one account, which you have one monthly payment for, is an option. You can also look into debt or credit counseling as an option.