6 Key Signs You Would Benefit Financially From Declaring Bankruptcy
Written by
Jordan Rosenfeld
Edited by
Molly Sullivan
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Filing for bankruptcy can inspire shame and discomfort, but it’s really just a legal, and sometimes necessary, debt-relief tool to help people get back on firmer financial footing.
While nobody sets out to file for bankruptcy, if the alternative is being unable to get out from under a mountain of debt that keeps piling up, or other legal repercussions, it might be the better option.
Experts explained some key signs that consumers would benefit from filing for bankruptcy when it’s used as a debt-relief tool.
If You Are Significantly Behind on Debt Payments
If the collections calls or letters won’t stop because you’re “significantly behind on debt payments” and facing lawsuits, garnishment, foreclosure or repossession, it’s probably worth looking into bankruptcy, according to Ashley Morgan, a debt and bankruptcy lawyer and owner of Ashley F. Morgan Law, PC.
Two other important signs they look at when people need to consider bankruptcy are making credit card payments each month and then using the same amount — or more on your credit card — to cover expenses or being maxed out on all your accounts.
“This type of credit card usage can signal you are over extended,” Morgan said.
If You’re Only Paying Minimum Payments for an Extended Time
Another sign to at least consider bankruptcy is if you are only paying minimum payments for an extended period of time, such as six months to a year with no likely change in your situation, Morgan said.
Paying only the minimum on debt can keep you in debt for years. If this is due to being in a period of struggle due to temporary hardship, like sickness, job loss/underemployment or some other kind of transition period, etc., then your finances may soon adjust, Morgan said.
“But if you have been at a lower-paying job for two years without being able to increase your salary to afford more than minimum payments, then you may want to consider bankruptcy,” she said.
If You Can’t Pay Off Debt Within Three Years
Morgan also recommended considering bankruptcy if there is no realistic way you can pay off debt in three years or less.
Of course, before determining that you really can’t pay off your debt, she recommended taking “a hard look” at your budget.
“You should look at where you can realistically save in expenses, for example, can you reduce eating out or cut extra expenses like one of the three streaming services you have?” she asked. You may even want to consider taking on a second job or side hustle, but Morgan warned, “You cannot reasonably work 80 hours per week for extended periods of time.”
If You’ve Exhausted All Reasonable Options To Pay
A person may benefit from declaring bankruptcy when they have exhausted all reasonable options to repay their debts and are still behind by two to three months or more, according to Janeil Pierre, an accredited financial counselor.
“Other strong indicators include persistent contact from debt collectors, legal threats such as lawsuits or wage garnishment, and a significant loss of income due to job loss, medical hardship or divorce,” she said.
If minimum payments are no longer affordable and the debt load continues to increase, bankruptcy may offer the legal protection and relief necessary for a financial reset, she explained.
If Other Debt-Relief Strategies Have Failed
Bankruptcy may be the best option when other debt-relief strategies, such as consolidation, negotiation or repayment plans, have failed to bring meaningful progress, Pierre pointed out.
Consequences of not paying debts, ranging from debt collection to facing court judgments, can add financial stress that affects mental or physical health. In that case, it’s time to consult with a professional to evaluate bankruptcy as a solution, Pierre said.
If It Will Improve Your Circumstances
Pierre set the record straight that bankruptcy is not a personal failure. “In reality, the most common causes of bankruptcy — medical expenses, job loss and divorce — are often outside of one’s control,” she said.
If bankruptcy allows you to improve your financial circumstances, then it is worth doing.
Don’t Believe the Hype
While filing bankruptcy stops collections, lawsuits and garnishments instantly, it does drop your credit score by around 200 points and goes on your record for up to 10 years, affecting loan and housing applications short term, according to Andrew Latham, CFP with SuperMoney.com. However, if fear of never being able to get credit again is holding you back from filing for bankruptcy, Latham reassured that that is not typically the case. “[M]ost people keep essential assets and rebuild credit within a year,” he said.
Which Type of Bankruptcy Is Right for You?
While you will want to consult with a bankruptcy attorney or other finance professional, Latham suggested that Chapter 7 is best for low-income earners with few assets who need fast relief, while Chapter 13 is better for people with a steady income and valuable assets to protect, such as a home or a car.
In the long run, bankruptcy gives a clean slate by eliminating crushing debt and improving your debt-to-income ratio, Latham said.
“Most filers are in better financial health within two years and see their credit score rebound and new credit offers in the mail in less than 12 months.”
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