When an individual declares bankruptcy, their credit score drops significantly. Because of the devastating impact it has on credit scores, individuals reserve bankruptcy as a last resort. It becomes an option when a consumer has debt that’s too insurmountable to manage. After filing for bankruptcy, credit scores can fall from 130 to 200 points. The damage depends on several financial factors and has a negative impact. One important factor is an individual’s credit health before the bankruptcy declaration.
Because bankruptcy affects individuals differently, it’s good to be aware of what bankruptcy is, how it works, and how to rebuild credit. This way, you can prepare for the impact bankruptcy may have on your financial future.
How Do Different Bankruptcies Impact Credit?
Not all bankruptcy cases are the same. There are different levels of bankruptcy for different cases. Depending on the amount a debtor needs to eliminate, he/she will need to file for a specific type of bankruptcy on the legal process.
The two most common types of bankruptcies for consumers and small businesses are Chapter 7 or Chapter 13 filings.
Chapter 7:
This type is for individuals or businesses needing to sell or liquidate all their nonexempt assets. The proceeds from the sales are used to pay some part of the debt before the court discharges it. Chapter 7 filings remain on a person’s credit report for up to 10 years, though some debts drop off the credit report sooner.
Chapter 13:
This type of bankruptcy is for individuals or businesses. It allows debtors to repay some of their debts while discharging other debts. For example, this type of bankruptcy may discharge medical bills, but allow the individual to pay off their home or car loan. Chapter 13 bankruptcies stay on an individual’s report for seven years, though some debts remain on the credit report longer.
Chapter 7 affects an individual’s credit health more substantially than Chapter 13 due to the nature of each bankruptcy type. With Chapter 7, individuals don’t repay any of their debt, while with Chapter 13, there is some effort to repay debt.
Which Debts Are Discharged in Bankruptcy?
In addition to the type of bankruptcy filed, the amount of debt also affects an individual’s credit score. An individual declaring bankruptcy with several high balance accounts will face a serious score drop. Individuals declaring bankruptcy with fewer accounts and lower balances may not suffer as much.
Credit history before bankruptcy may also factor in the filing’s impact. An individual with positive accounts may see a smaller score decrease compared to an individual with negative accounts.
While these factors matter when it comes to credit scores following bankruptcy, the impact is unsubstantial. The key components of bankruptcy impact lie in the bankruptcy filing itself and how recently it was filed. The longer it has been since the declaration of bankruptcy, the less impact it has.
When Can You Repair Your Credit?
After filing for bankruptcy, it may take quite some time to repair one’s credit score. However, to get a head start on rebuilding credit, it’s a good idea to adopt good credit habits. Pay remaining bills in full and on time, and avoid incurring any more debt while a bankruptcy is active.
Also, even though an individual’s credit score decreases after bankruptcy, it’s still possible to secure small lines of credit. Obtaining a low-limit credit card is a great way to rebuild credit again once a bankruptcy term has ended.
After bankruptcy, it will take time to start seeing good credit habits paying off. It’s worth behaving as responsibly as possible so that a post-bankruptcy credit score can start climbing back up to acceptable levels.
How To Repair Credit After Bankruptcy
To start the credit repair process, an individual can check his or her credit report to ensure that the bankruptcy was reported correctly. Ensuring that each discharged account shows a bankruptcy discharge status and a balance of zero is a good start.
Next, continue to pay bills on time, or you can create a repayment plan. A single late payment can drop a low score by several more points. If a small line of credit is available, spend within reason, and pay each credit card statement off in full. Credit reports reflect financial responsibility with score increases.
Bankruptcy is not a simple decision for anyone due to the heavy burden it has on an individual’s credit health. It’s important to realize, however, that bankruptcy is not the end of the world. It may devastate an individual’s credit report for up to a decade, but there is always room to rebuild through smart credit management.
Should you have questions about bankruptcy and whether it’s the right step for you, be sure to speak with a financial professional or credit counselor, such as a credit counseling agency. You can get an education on credit reporting, credit scoring model, filling bankruptcy, credit utilization, etc.
So, you can be well-informed about your options before making such a crucial decision on your financial health. Bankruptcy does not have to end your financial future if you choose to pursue it correctly. You still need to create a positive payment history in order to build your better financial habits.
There are a few things you can do to repair your credit after bankruptcy. In fact, these strategies can be used to get a good head start on rebuilding credit scores:
Do Not Take Out New Credit Until After Bankruptcy
Taking out new credit while an individual is in the middle of a bankruptcy term will not help them rebuild their credit score. This is because the financial institution will consider the debtor as a high-risk customer. A negative mark on your credit report can be damaging to your score. Therefore, you should avoid applying for new lines of credit until after your bankruptcy term has ended.
Reduce Credit Cards Debt Load
Even though you have access to low-limit credit cards once your bankruptcy has ended, it’s still important to pay off outstanding debts before applying for any new credit lines. While you are in the middle of bankruptcy, try paying down all debt balances as quickly as possible so that you don’t end up paying more interest than necessary.
You should also keep an eye on current debt balances because some creditors may start raising interest rates and charging penalties for late payments. Once your bankruptcy has ended, you can then apply for new lines of credit. The best choice is to use a secured credit card that does not require a security deposit and has low credit limits. This way, you won’t have to worry about accumulating more debt as you rebuild your credit score on the public record.
