Ifmounting credit card bills are threatening to pull you under, you may beconsidering bankruptcy as a way to hit the restart button.
TheAmerican Bankruptcy Institute expects worsening economic conditions to drive upthe number of consumer filings this year to their highest level since stricterbankruptcy terms went into effect in 2005.
Themore than 880,000 filings through October have already eclipsed the 823,000filings for all of 2007. It’s no wonder, with government figures showingAmericans are lumbering under some $900 billion in credit card debt.
Bankruptcycomes with serious consequences for your credit profile, however. So if you’reconsidering bankruptcy as a way out, here are six questions to ask yourself.
What type of bankruptcies are there? There are two bankruptcy options forindividuals.
Mostpeople file for Chapter 7 bankruptcy, which wipes clean unsecured debt such ascredit card or medical bills. What won’t disappear are fixed debts includingmortgages, student loans, taxes and child support.
Underthe second option, Chapter 13 bankruptcy, filers agree to repay creditors overthree to five years. Chapter 13 is typically for people who think they will beable to repay lenders and hold onto their home and other belongings.
Thereis no debt limit to file for Chapter 7. For Chapter 13, however, people canonly have about $1 million in secured debt and some $350,000 in unsecured debt.This is to prevent businesses or wealthy individuals with business debts fromapplying.
Who can apply? Eligibility for Chapter 7 is determinedby a formula known as the means test, which weighs your income against yourability to pay creditors. Your attorney calculates the test and it is vetted bya trustee.
Afamily earning $80,000 or less generally won’t have problems filing for Chapter7 because the means test factors in living expenses. People who received aChapter 7 discharge in the past eight years are not eligible for anotherdischarge.
Asimilar means test is used to determine a payment plan for Chapter 13. Peoplewho filed for a Chapter 7 bankruptcy resulting in discharge in the past fouryears or a Chapter 13 case resulting in a discharge in the past two years arenot eligible for another discharge.
How do I get started and what are the costs? Depending on the complexity of a Chapter7 case, you’ll need to pay a lawyer an up-front fee of about $1,000 to $2,000,said Henry Sommer, president of the National Association of Consumer BankruptcyAttorneys. Chapter 13 cases usually cost $2,000 to $3,000 since they requiredeveloping a payment plan over several years.
Inboth cases, there is a court filing fee of about $300. You’ll also need to payroughly $100 for a mandatory credit counseling session and budgeting class.
Bothsessions typically last about 45 minutes and may be in person, via phone oronline.
If thesecosts seem out of reach, there are nonprofit groups that provide pro bono legalservices. Court fees may also be waived for those who can’t afford them.
What can I keep? Pensions and 401(k) retirement accountsare usually safe under bankruptcy proceedings
Dependingon where you live, you may also be allowed to keep a limited amount of propertyunder Chapter 7.
“Wildcard” exemptions in several states let people keep as much as $20,000 incash or other assets. The court typically won’t go after property worth lessthan $1,000 because it might take more to administer the liquidation than it’sworth.
Youmay also claim exemptions under Chapter 13, but filers often hold onto theirbelongings by repaying creditors.
How does the process work? Once you file for bankruptcy, anautomatic stay immediately requires creditors to stop collection efforts. Thatmeans no more phone calls, letters or lawsuits.
UnderChapter 7, you still need to pay mortgages and other secured debt.
Within20 to 40 days after you file for bankruptcy, a trustee will schedule a meetingwith you to go over your financial records. Creditors then have up to 60 daysto object before debts are discharged.
Onlythe debts you list when you file for bankruptcy are erased. Any debt you incuror money you earn after filing for Chapter 7 is not subject to proceedings. Theprocess should take about four months from filing to approval.
ForChapter 13 bankruptcy, repayments start within 30 days after the case is filed,Sommer said.
Interestrates on mortgages, credit cards and other debts will likely drop substantiallyand the principal may also be reduced. During the repayment process,applications for new loans need to be approved by the trustee.
What are the repercussions? Filing for bankruptcy comes with seriousconsequences.
Tostart, a Chapter 7 bankruptcy stays on your credit report for 10 years, while acompleted Chapter 13 sticks around for seven years.
Thosewith decent to good credit can also expect to see their scores drop by at least100 points, said Barry Paperno, a spokesman for Fair Isaac Corp. Someone whodoesn’t have many credit card bills but suddenly incurs major medical expensesmay fall into this category.
Theexact impact on your score depends on how much debt was discharged and how manydifferent accounts were involved.
Personal bankruptcies soarin financial crisis
By David Lazarus
November 2, 2008
Matthew Shelbourn knows money. The 27-year-old
By year-end, though, Shelbourn said he’s all but certain to filefor bankruptcy protection.
He said he’s struggling to crawl out from under about $150,000 instudent loans, $25,000 in credit card debt and $20,000 in medical bills, not tomention a pile of late fees that have accumulated because of missed payments.
“If I had to pay it all back, I’d find a way,” Shelbournsaid. “But I feel like I’m at a turning point in my life. I want a cleanslate.”
Like a lot of people, he’s nervous about the economy sliding intoa prolonged recession and the effect this could have on his job, his healthinsurance and his ability to survive. Shelbourn said he decided to seekbankruptcy protection before things grew worse.
It’s a decision many people have made in recent weeks. Consumerbankruptcy filings rose 28.6 percent nationwide in September from a yearbefore, according to the American Bankruptcy Institute.
In August, bankruptcy filings were up 29.2 percent from a yearearlier.
“The continued rise in personal bankruptcies reflects highconsumer debt, made worse by energy costs and the weak housing market, trappingmany households in homes they can neither afford nor sell,” said SamuelGerdano, the institute’s executive director. “We expect consumerbankruptcies to exceed 1.1 million new cases by year-end.”
If he’s right, that would handily top the 822,590 bankruptciesrecorded last year and would be the highest level since 2005, when a law tookeffect that was intended to revamp the bankruptcy process and make it harderfor people to escape their debts.
American consumers owe nearly $2.6 trillion in non-mortgage debt,or about $8,460 for every man, woman and child, according to the FederalReserve. Credit card debt alone is fast approaching $1 trillion.
Henry Sommer, president of the National Association of ConsumerBankruptcy Attorneys, said these are boom times for people in his line of work.Many bankruptcy-related law firms are working full tilt and rapidly bringing onadditional staff.
“There’s a lot of business,” he said.
This wasn’t supposed to be the case. When the Bankruptcy AbusePrevention and Consumer Protection Act took effect three years ago, it was seenby many as a gift to the credit industry, which had long complained tha
t itsmost-indebted customers were shirking their obligations by filing for Chapter 7protection.
A Chapter 7 bankruptcy, which Shelbourn intends to seek,essentially releases a debtor from responsibility to pay most outstanding billsto creditors. The downside is it leaves a black mark on your credit record for10 years and could make it difficult to obtain loans in the future.
A Chapter 7 filing also can result in the loss of your home, carand other property if their value surpasses certain levels.
The 2005 law made it tougher, and more expensive, to file forChapter 7 protection and attempted to steer more people into Chapter 13bankruptcies, which require repayment of debts within three to five years.
Yet of 597,965 consumer bankruptcy cases filed in 2006, more than58 percent qualified for Chapter 7 under a means test imposed by the law.Nearly 61 percent of bankruptcies qualified last year.
That percentage rose to 64 percent in the first quarter of 2008and almost 68 percent in the second quarter.
“What that tells us is that the people who are filing forbankruptcy are people who don’t have a lot of money or who can’t afford to paythese debts back,” said Maureen Thompson, legislative director for thebankruptcy attorneys’ association.
“It’s now harder to file for Chapter 7 bankruptcy,” shesaid. “You have to pay more to do it. But people still qualify.”
To qualify, a filer’s income must be below the state’s median, orthe filer must meet other requirements for living expenses, unsecured debt orspecial circumstances, such as loss of a job.
Shelbourn, who makes about $41,000 a year, said he agonized overwhether to go down the bankruptcy road.
“I’m a practical, numbers person,” Shelbourn said.”I know I got in over my head and made some mistakes. But I really feltlike the prudent thing to do would be to start over.”
David Lazarus is a staff reporter for the Los Angeles Times, aTribune Co. newspaper.