How to Know When to Declare Bankruptcy

by Emily Guy Birken · 9 comments

Empty wallet

Bankruptcy is the nuclear option of debt relief: it may solve some of your debt problems, but it causes a host of others. So how do you decide whether you should file bankruptcy or continue trying to pay down your debt?

If you’re considering filing for bankruptcy, here’s what you need to know to determine if the potential benefits will outweigh the certain negatives:

Chapter 7

Chapter 7 is the most common type of personal bankruptcy filed, and it requires a debtor to surrender all of their non-exempt property to a trustee for liquidation. (Exempt property generally includes things like household goods, clothing, etc.) The money generated from this liquidation is given to the creditors in exchange for discharging the rest of the debt. However, any creditors for secured assets, such as cars, have the right to repossess the collateral even if the debt has been discharged.

Individuals filing for this type of bankruptcy will have to prove that they’re eligible for this type of debt relief through a “means test,” which looks at your income and debt. The specifics for the means test vary from state to state, so it’s worth it to consult a bankruptcy attorney to help you. Any individual considered ineligible for Chapter 7 bankruptcy may have to switch to Chapter 13 filing.

Chapter 13

This type of bankruptcy is only available to a debtor who has regular income. Chapter 13 allows the debtor to keep all of their property and assets, but sets out a repayment plan over three to five years to repay creditors. At the end of the repayment period, the remainder of the debt is discharged.

Benefits of Filing

Filing for bankruptcy can provide an individual or a family a great deal of relief — and not just financially. Sometimes, people will file for bankruptcy just to get the debt collectors off their back, giving the individuals (and their family) space to rebuild their lives after months of debt collector hounding.

If the insurmountable debt came about because of a single incident or several instances of bad luck, such as a medical bill, divorce, job loss, etc, bankruptcy can offer the breathing room necessary to get back on your feet.

On the other hand, bankruptcy doesn’t erase or change bad spending habits. So unless you have a plan for change, you may be facing many negative consequences on top of poor money habits that can land you back in the same situation.

Credit Consequences

The biggest repercussion that bankruptcy has on an individual is the credit hit. Not only does your credit score take a major dip after bankruptcy, but the bankruptcy itself stays on your credit report for 10 years. Considering the fact that many employers now do credit checks on their potential employees, along with criminal background checks, there’s the possibility that a bankruptcy declared in 2012 could cost you a job in 2022.

In addition, any plans you have for your life that would require a loan — buying a house, starting a business, or even buying a car — will have to be put on hold until you’ve shown yourself credit-worthy again.

Emotional Consequences

Even if the numbers make sense for you to declare bankruptcy, the emotional aspect of filing is something you shouldn’t ignore. There’s definitely a stigma still associated with bankruptcy, despite it becoming more and more common since the economic downturn. How will you feel about yourself, your finances, and your family if you have to declare bankruptcy?

If you need to use this tool to free yourself from an overwhelming debt load, you’ll also need to take the time to work on your own emotional health. The natural feelings of embarrassment and shame in the wake of declaring bankruptcy can often send individuals looking for quick emotional fixes, like shopping or gambling, which can just restart the cycle all over again. Be prepared to feel more than just relief when your debt is discharged.

The Bottom Line

Whether you owe $15,000 or $150,000, debt can feel like it’s crushing you if you can’t repay it. Bankruptcy can offer some relief, but at a price. If you decide to file, make sure you consult with a reputable bankruptcy lawyer, understand all of your options ahead of time, and go into filing with your eyes wide open.

Have you ever declared bankruptcy, or thought about doing so? 

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  • Eileen Glockner says:

    I am 81 yrs old have a lot of credit card debt . Do yo suggest I go into bankruptcy . I have no assets live with my children , have no car or any kother assets. I ive on SS Retirement which is direct delposit in my small checking accpunt monthly. This is my only income.


  • Doris says:

    Dear J. Harley,

    Don”t be scared to death, I had a car accident a long time ago and I ended up going bankrupt. I was really nothing. I did not own a house and I had no assests because I was a single parent. I paid a lawyer 800.dollars and the proceedings took all of 1 5 minutes. My credit was ruined but it never made a damn difference to anyone. No one ever knew about it. Not one of my friends or neighbors or bosses or anyone ever knew unless I told them. No one pays attention to that any more.

    What is important in life is not your stuff. People who love you will be around if your up or down. And if you have no one at the monent get into a good church or book group. Do group at the hospital for extra support.

    I have seen people start their lives over ever day. Some from gambleing debts some from alcoholism. Not that any of that makes a difference, but what does make a difference is that the people are doing that every day. One day at a time.

    If you find that you have to loss your stuff, and I hope you don’t ofcourse, it is a relief from worrying the way that you are. People are worth more than their stuff. Surround yourself with people by being a friend to one and than another and if you are still ill start at the hospital and other place where you have to go for treatment. Stay open and share your heart out. Tell everyone you know that you need help and people will love to help you. And don’t worry. If all your stuff goes out on the curb you will still be okay and you can even laugh about it instead of cry. No matter what you will be okay. God bless! Love Doris

  • Mom of 3 says:

    angela, S. Kiran, & J. Harley

    – don’t feel bad banks are stupid & unreasonable – even when folks in a bad spot are trying to do what’s right – I had to file 8 1/2 years ago when a job loss hit my already low-income, single mom life, it took the last of my savings to pay my court fees – honestly the “doom & gloom” that everyone warns of never hit us – we were finally able to stand on our own again, it wasn’t lifestyles of the rich & famous but it was dignified and honest, as long as you’re able to live within your means without the plastic cards after you file bankruptcy doesn’t ruin your life.

  • J.Harley says:

    I am scared to death! I had a horrible life changing accident that is keeping me from working due to my disability. I have been turned down as usual for disability assistance from the government. My mortgage is 1750.00 a month, plus association dues of 250.00, a car payment of 439.00 and insurance not to mention medical and all of the medical bills that were not covered for the 57 surgeries that I have had. I have gone through all my savings and have nothing left to give. I feel so incredibly alone and confused and am feeling like bankruptcy is my only choice. I tried to short sale my house and got a buyer willing to pay cash for way more then the comps in my neighborhood but the bank took so long that they backed out two days before Christmas. If I didn’t have bad luck I wouldn’t have any at all and I just can’t emotionally afford to make a bad choice after all that I have been through. I could use any feed back that anyone can give me and would appreciate it very much! Thank you and god bless!

  • S.Kiran says:

    I am a widow & i have two childrens – Age – 12 years & 14 years. After My Husbansd’s death i have faced some bank loan(9 Lacs) which is on my name (Beer shoppy -Licence) & i have no source for paying the loan & still this time i am a housewife, how clear the matter for bank settlement. Plz advise me.

  • angela says:

    My husband and I have been together and living with eachother since our teens. We are now in our 30’s and have accumalatedan extraordinary amount of debt. We don’t have much credit card debt, we didn’t mess with the plastic, but have a lot of medical bills and owe the tax man thousands. We are now homeless and are considering filing for bankruptcy. He lost a very well paying job and is now making a third of what he use to make…We have no assets. Do you think we would be a good canidate for bankruptcy?

  • DANNY says:

    You are absolutely right in your wise decision, to do other income will help your financial needs.



  • Mandy - MoneyMasterMom says:

    Way to go for buckling down and killing your debt! I bet paying the last dollar off was incredibly rewarding. Would love to hear more about getting creative to increase your income. Thanks to Emily for addresses the negative impacts and lasting effect of what is often perceived as the easy way out

  • Cherleen @ My Personal Finance Journey says:

    When we got neck-deep with our credit card debt, I almost declare bankruptcy. However, we weighed the pros and cons of doing so and we realized that it will not be beneficial to our situation as well as to our children. Hence, we decided to work double and looked for other sources of income to increase our earnings so that we can pay off our debts.

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