Effect of filing bankruptcy

Contrary to popular belief, filing for bankruptcy is not credit suicide. The fact that many people who file for bankruptcy already have less than perfect credit generally leads to an increase in their credit score after they file for bankruptcy. For years, creditors and collection agencies, who abhor bankruptcy, spread the idea that bankruptcy is the end all of your credit life. Working in the industry, I've seen people's lives improve drastically after bankruptcy.

For people with unmanageable amount of debt, there are several reasons why filing for bankruptcy is a good thing.

First, it provides a definite time line for relief. Credit card companies make money on the minimum payments and late charges that people can only afford to pay; we all know that by paying only the minimum payments, it could take 30+ years to pay off a small debt. You basically enslave yourself with debt for 30+ years. Bankruptcy can break this ball and chain and allow you to actually work toward a better future.

Second, you can only benefit from a Chapter 7 bankruptcy once every 8 years. This means that after you've filed, you are considered lower risk customer to creditors. In fact, people report receiving a crazy amount of credit card offers within months of filing for bankruptcy. Although getting back into debt is an easy way to build up credit, it's also a debt trap. In 2005, Congress reformed the Bankruptcy Code. One of the many changes include mandatory credit counseling and financial management classes before someone can file for bankruptcy. It was designed to curb the number habitually filers. It's too early to see if credit counseling is working since people who filed after 2005 aren't eligible to file again until after 2013 (since one can only file a Chapter 7 once every 8 years).

Third, credit reporting bureaus generally suppress reportings after a bankruptcy case is filed. This means that your credit score can only go up after a bankruptcy--so long as you act responsible with future credit. From experience, credit scores are usually around the mid-600s one year after filing. The ideal score would be around 700 and higher. 800 or higher is considered supreme, but even those with "perfect credit" don't have scores in the 800s. *Note: Nobody starts at 800, you have to earn it over a long period of time and credit.* Bankruptcy is only a one time hit on your credit report. Everything you do after that can substantially improve your credit.

Fourth, the Fair Credit Report Act requires credit bureaus to remove a "bankruptcy" mark after 10 years. This means that after 10 years, the only way anybody would know that you have filed for bankruptcy is if you tell them or they search bankruptcy court records. Even so, after 10 years, if someone can't obtain credit, it's probably not because of the bankruptcy.

People fear bankruptcy for the wrong reason. It is not a credit suicide. It is, at worst, a temporary obstacle to getting back into debt, and at best, fresh start at life with a clean slate and no stress.

Happy new year everyone!