| Being in over your head financially can be frightening. If you do find yourself in this position, bankruptcy is one of the alternatives to financial distress.
Of course, the decision to file for bankruptcy should be considered carefully, weighing not only the benefits and potential relief it can bring, but also the drawbacks.
So, what exactly is bankruptcy? It's a legal process that offers an individual or business the chance to start fresh by forgiving debts that can't be paid. Meanwhile, creditors also can sometimes get some repayment based on those assets that do remain available for liquidation.
Bankruptcy can help by eliminating all or a portion of existing debts and/or by stretching out the monthly payments under the protection and supervision of a court. The process is also designed to protect creditors, because general unsecured creditors share equally in whatever payments the debtor can afford to make.
While this route can alleviate an excessive financial burden, there are pros and cons associated with bankruptcy.
Declaring bankruptcy can help relieve you of your legal obligation to pay your debts and save your home, business or ability to function financially, depending on which kind of bankruptcy petition you file.
One of the most important advantages of filing for bankruptcy is that you can obtain a fresh financial start.
For example, if you are eligible for Chapter 7 protection, most of your unsecured debts may be forgiven or discharged. A secured debt is one which the creditor is entitled to collect by seizing and selling certain assets of the debtor if payments are missed, such as a home mortgage or car loan.
You may be able to keep some of your assets, although state laws vary widely in defining which assets you may keep. In addition, collection efforts must stop as soon as you file for bankruptcy under Chapter 7 or Chapter 13.
Of course, there are the downsides.
A bankruptcy can remain on your credit record for seven to 10 years and can affect your future finances. Therefore, it will likely lower your credit rating, making it more difficult to get a loan, mortgage or credit card; buy a home or business; or rent an apartment.
Bankruptcy can be expensive. You'll need to cover the costs of bankruptcy, including service and court fees.
You may still be responsible for some debts. While most debts can be discharged, there are some debts you will still be responsible for repaying.
Examples of debt that cannot be discharged include child support, alimony, some student loans, divorce settlements and some income taxes. It's key to check with an attorney on the specific categories of debt that will be allowed for discharge.
A CPA buddy of mine said that, in theory, the ability to file for bankruptcy benefits the overall economy by allowing people and companies a second chance to gain access to credit. It can also help creditors regain a portion of debt repayment.
For more advice to help you make smart financial decisions, check out CNBC's Financial Advisor Hub and Personal Finance section. |
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