Economic collapse stemming from the recession has left many consumers struggling with overwhelming debt and unpaid bills. For some people, filing for bankruptcy is the only option left that may help them get a fresh start with their finances. However, this option is not the best choice for everyone experiencing money trouble.
Below is a breakdown of the two most common types of consumer bankruptcy protection and the ways they can affect your credit score*.
If you want a fresh start from your financial burdens, you could file for Chapter 7 bankruptcy. By selecting this protection, you will be agreeing to sell all of your non-exempt assets in order to pay off any debts owed to your creditors.
According to statistics from the Administrative Office of the U.S. Courts, this type of bankruptcy protection was the type most commonly used during the 12-month period ending on March 31, 2010. Within that year, more than one million Chapter 7 bankruptcy petitions were filed.
Filing for Chapter 13 bankruptcy protection allows you to restructure your payment plans so that you have more time to pay off your balances. Rather than liquidating your assets (the process involved in Chapter 7 filings), filing under Chapter 13 will usually enable you to receive a lower interest rate, or none at all, and between three to five years to meet your debt obligations.
This option, which accounted for roughly the remaining 28 percent of all non-business filings during the 12-month period ending on March 31, 2010, is generally reserved for individuals who have a steady income stream.
What's the Impact of Bankruptcy on Your Credit Score?
Bankruptcy is often considered the last resort option for individuals because of the major negative impact it may have on your credit score. If you have a good credit score but suddenly find yourself in need of either Chapter 7 or 13 bankruptcy protection, keep in mind that you may see your good credit score plummet by hundreds of points.
Also note that bankruptcy will remain on your credit report for seven to 10 years, unlike a foreclosure, short sale or 90-day delinquent mortgage, which would linger on your credit report for about seven years, according to a recent FICO study. So if you file for bankruptcy, you may find it difficult to obtain affordable interest rates on loans and insurance policies. And, because of the negative credit impact associated with bankruptcy, you may want to explore various other debt repayment options before you decide to file.