Bankruptcy can seem like magic, since it makes debt practically disappear. But you might ask yourself who pays for it?
The person filing for bankruptcy ends up paying a lot. In many cases, they also lose a lot of their stuff. In this article, we will explore how much bankruptcy can cost you and answer other questions you may have.
An Introduction to Bankruptcy
Before we get into it, here are the most common kinds of bankruptcy for individuals:
- Chapter 7: In this kind of bankruptcy, a judge gives a neutral third party (a “trustee”) the right to manage your property. The trustee sells your property that is not exempt and uses the money to pay the people to whom you owe money.
- Chapter 11: You may have heard about big companies declaring this type of bankruptcy. Chapter 11 bankruptcy lets a business keep running while it cuts expenses and sells assets to pay their creditors. In some cases, an individual can qualify for Chapter 11 bankruptcy — for instance, if they earn too much money to qualify for Chapter 7.
- Chapter 13: This type of bankruptcy is like a payment plan. The court decides how much you can afford to pay, and how long you will pay. In the end, any leftover debt is discharged.
There are additional types of bankruptcy, but these are the most common.
The Downsides and Costs of Declaring Bankruptcy
Bankruptcy is a serious decision. Before filing, you should consider whether bankruptcy is your only option.
The biggest downside to bankruptcy is that you could lose a lot of your belongings. Bankruptcy also does not eliminate all types of debt.
For example, bankruptcy will likely not get rid of certain kinds of debt, such as student loans or child support. Other downsides include:
- Bankruptcy can remain on your credit report for up to 10 years. That means that after bankruptcy, you could have a tough time getting a loan, even when you’re back on your feet.
- Bankruptcy takes a long time. Chapter 7 typically takes four to six months. Chapter 13 often takes three to five years. However, your creditors cannot try to collect from you while you are in bankruptcy.
- Bankruptcies are public. This means that your bankruptcy can show up on some types of background checks, which can make it harder to get some jobs or rental units.
In terms of costs, the fee to file for bankruptcy can start at a few hundred dollars and run up into the thousands, especially once court attorney fees are added in. For example, experts estimate that legal fees for bankruptcy can reach up to $6,000.
If your income is under a specific amount, you may qualify for a waiver of court fees. Additionally, the American Bar Association offers help finding resources for free legal help. Talking to a lawyer is always a good place to start.
Taking Out a Loan to Pay for Bankruptcy
You may be tempted to get a loan to pay for bankruptcy. However, many experts advise against this.
Lenders may assume that you never meant to pay them back and contend that your attempt to borrow money shortly before filing is an example of bankruptcy fraud. If the bankruptcy court agrees, it can decide to dismiss your case.
Experts recommend only borrowing money from friends and family. Or you can sell some of your property to raise money. However, you must report sales in your bankruptcy case.
Will Chapter 7 Leave You Broke?
Ideally, no. The entire point of bankruptcy is to give you a fresh start, not to wipe you out financially.
You do get to keep some things that are considered exempt property. For example, clothes, work tools, and your house could be exempt. In general, you will be able to keep many necessities.
However, it is important to remember that you may indeed lose other items that will be sold to pay creditors. These could include things like second homes and second cars.
Keeping Cash After Chapter 7
You might be wondering how much cash you get to keep after bankruptcy. It depends partly on the state in which you live.
The typical cash exemption is around $300. Some states have a “wildcard exemption” that can be used to protect more cash.
The amount of cash you can keep also depends on how you got the money. Social Security income, alimony and child support, welfare benefits, and a few other kinds of income may be protected in your state.
Using Your Money Before Declaring Bankruptcy
Many people think they should spend all of their money before filing for bankruptcy. They do this with the belief that if they spend the money, the court can’t take it from them.
However, in a bankruptcy, the documents you file include a breakdown of your recent spending. The trustee in your case will analyze this spending.
If it looks like you were trying to spend money to keep it from your creditors, it could lead to a dismissal of your case, or a bankruptcy fraud investigation.
Final Thoughts
Bankruptcy can give you a way to move forward, but it comes with serious tradeoffs. You may lose property, pay thousands of dollars in fees, and be forced to deal with long-term credit damage. It’s not a decision to take lightly.
If you’re considering bankruptcy, talk to a qualified attorney to understand your options and figure out what makes the most sense for your situation.
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