About 500,000 people in the United States have filed for bankruptcy every year for the past four years. This number is a big drop from the 1.18 million people who filed for bankruptcy in 2011.
If you’re considering filing for bankruptcy, you’re certainly in major financial distress. You probably owe more money than the net worth of your combined assets.
While taking this path can offer you some protection or relief, it’s important to know when to file for bankruptcy. Don’t just rush for it unless it’s the best option at your disposal.
Continue reading to learn more about what to consider before filing for bankruptcy.
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But first off:
Why Is It Important to Approach Bankruptcy with Caution?
While bankruptcy has some advantages (a Chapter 7 bankruptcy, for instance, discharges some of your debts), it can also cause you great financial harm.
For example, if you successfully file for Chapter 7 bankruptcy, your credit score will see a major drop, and the information will stay on your credit report for 10 years.
Within this period, it’s almost impossible to repair your credit score. And with a poor credit score, you won’t be able to secure any loans. If you’re lucky enough to get loaned, you’ll face extremely high interest rates.
These aren’t the only consequences of having bad credit as a result of a bankruptcy. A potential employer can decide against hiring you just because of your credit, especially if you were seeking a financial job. You’ll also have a rough time getting a tenant application approved.
When to File for Bankruptcy
Now that you know the potential consequences of filing for bankruptcy, let’s focus on when you should make the move.
Debtor Collectors Are Hot on Your Heels
When you take out a loan, your lender expects you to make regular repayments till the entire loan is paid off. However, if you miss payments and default on the loan, the lender will hire debtor collectors to get the money you owe.
You don’t want to be dealing with debt collectors. These guys have a reputation of being relentless in their pursuit of debt. They will call you every other minute and use other unfriendly methods to get you to pay up.
There is no doubt debt collectors can make your life hell. Most people would rather pay off what they owe than deal with collectors.
If you’re in this situation and you’re still unable to pay up what you owe, it might be time to get bankruptcy protection. A Chapter 13 bankruptcy, for example, will allow you to negotiate a new payment plan that works for your current financial situation. Importantly, it will get the collectors off your back.
You’re Using Loans to Pay Loans
If you’re borrowing money to pay off other loans, you’re in a vicious debt cycle. Most people do this hoping they will get a lucky financial break and sort out their debts once and for all.
Unfortunately, this is rarely the case. Most people stay in an unending loop for several years.
Instead of waiting for your finances to look up, file for bankruptcy. Otherwise, you’ll keep borrowing B to pay A, then A to pay B, forever! You will also lose lots of money in loan charges and interest rates.
When you file for bankruptcy, some of the loans you have been struggling to pay off could be discharged.
You Risk Losing Your Home
There are two situations under which you could lose your home.
One, if you take out a mortgage and default it, your lender will initiate the foreclosure process after about 3 months.
Two, if you own your home outright but use it as collateral in a secured loan, the lender can initiate a repossession process if you default on the loan.
Whichever situation you are in, there’s nothing pleasant about losing your home. You probably have a strong emotional attachment to it, and losing it could mean you and your family will be homeless.
If you’re at risk of losing your prized asset, then filing for bankruptcy might be the best way to keep it in your hands. Under a Chapter 13 bankruptcy, you’ll have the opportunity to work out a new payment plan with your lenders, meaning you’ll be able to keep the house, even if foreclosure or repossession proceedings had kicked off.
You’re Digging into You Retirement Fund
Saving for retirement is an important financial decision. When you finally hang up your spurs, you’ll rely on your retirement savings to maintain your quality of life.
Really, you should never tap into your retirement fund, unless there’s a dire emergency.
However, if you find that you’re being forced to withdraw your retirement savings just to pay off debt, you’re probably better off filing for bankruptcy. There’s no value in undoing several years’ worth of savings because of a debt that could be discharged in a successful bankruptcy.
You’re Eligible for Either Chapter 7 or Chapter 13 Bankruptcy
Just because you’re unable to pay your debts doesn’t necessarily mean a bankruptcy court will approve your application.
There’s a strict criterion that an applicant needs to meet.
For a Chapter 7, you must pass a “means test.” Your monthly income must be lower than the official median monthly income in your state. If it’s equal to or higher, you’ll have to prove that your disposable income (after subtracting living expenses) isn’t enough to take care of your debts.
For a Chapter 13, your disposable income must be adequate enough to take care of a new payment plan. Your secured debt can’t exceed a set amount ($1,149,525 as of 2019), and your unsecured debt shouldn’t be more than $385,175 (as of 2019). Also, you must have correctly filed your taxes in each of the last four years.
So, if you’re eligible for either option, you can go ahead and file.
Filing for Bankruptcy Has Its Pros and Cons
Filing for bankruptcy isn’t a light financial decision. It’s will impact your life for a long time to come, so you need to be sure about it. With this guide, you now know when to file for bankruptcy.
Stay tuned to our personal finance blog for more insights.