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Filing bankruptcy should be looked at as a last-resort scenario, but, in some cases, it can be helpful or even necessary to get back on your feet financially.
There's no minimum amount of debt you have to have before you can file bankruptcy, and the maximum amount of unsecured debt (debt not backed by collateral) is in the hundreds of thousands of dollars. So it's possible to file bankruptcy with $35,000 in credit card debt.
Whether that's a good idea, though, is another question entirely. Credit card debt is considered dischargeable, but the negative impact a bankruptcy is likely to have on your credit can be severe and last for years. As such, it's crucial that you research the process and learn more about alternatives before you hire a bankruptcy attorney.
How Does Bankruptcy Work?
There are two types of bankruptcies for consumers: Chapter 7 and Chapter 13. Under Chapter 7 bankruptcy, the court typically requires that you sell off some of your assets and pay off what debt you can, with the remainder discharged.
Chapter 13 bankruptcy, in contrast, allows you to keep your property but requires you to repay all or a portion of your debt over a three- or five-year period. Once you've completed the repayment plan, any remaining balances included in the bankruptcy are discharged.
With both types of bankruptcy, most forms of unsecured debt can be discharged, including credit card debt. Others types of dischargeable debt include medical bills, utility bills, judgments, certain tax debts and more. In most cases, though, you won't be able to discharge a mortgage loan, student loans, child support and alimony, among others.
Bankruptcy is a last-resort option, and it's important to consider other options and pay off your credit card debt in other ways first.
What Are the Requirements for Bankruptcy?
The requirements for bankruptcy depend on the type you're hoping to file. To file Chapter 7 bankruptcy, for instance, your income in the previous six months must be lower than the median income for households of the same size in your state. If it isn't, you can undergo a means test that assesses your financial status and ability to pay your debts.
Other factors the court considers include how long it's been since you last filed bankruptcy, whether you've completed a credit counseling course and the reason behind the filing.
Under Chapter 13 bankruptcy, you must have enough income to make the monthly debt payments outlined in the reorganized debt plan. You must have also filed a tax return in all of the previous four years. The court will also consider the amount of your debt—you can't, for example, have more than $419,275 in unsecured debt—as well as whether you've completed a credit counseling course and more.
If you're not sure whether you qualify for bankruptcy, search for an attorney in your area who is willing to do a free consultation to assess your situation and provide you with expert advice.
How Does Bankruptcy Affect Your Credit?
One of the primary reasons bankruptcy is typically considered a last resort is because it has significant negative consequences for your credit history.
For starters, a Chapter 13 bankruptcy will remain on your credit report for seven years, and a Chapter 7 will stay on there for 10 years. During this time, and especially during the first years, it can be very challenging to get approved for credit.
Of course, some lenders are willing to work with borrowers who have a bankruptcy on their credit report, but they'll likely charge high interest rates and fees. A bankruptcy will also hurt your credit scores, which can complicate borrowing as well as things like employment and even your insurance premiums.
The good news is that it's possible to recover after bankruptcy. As time passes from the date you filed, and you continue to add positive information to your credit reports through responsible credit behaviors, the impact of bankruptcy can soften. Recovery still won't be a quick or easy path, though, so think carefully before you file.
How to Pay Off Credit Card Debt and Avoid Bankruptcy
There are a few different options you can consider as you work to pay off a high credit card balance:
- Debt snowball method: If you have the means to make payments, consider this approach to accelerate the payoff process. You'll start by making just the minimum payment on each credit card account, but you'll pay as much as you can toward the account with the lowest balance. Once that account's paid off, you'll take what you were paying toward it and direct it to the card with the next-lowest balance, and so on until you've paid off all your accounts. The debt snowball method can be helpful if you need some quick wins with lower balances to keep you motivated.
- Debt avalanche method: The debt avalanche method works similarly to the debt snowball method, but with one key difference: Instead of focusing first on your account with the lowest balance, you'll target the account with the highest interest rate. This approach will usually save you more money on interest. How much you save, though, will depend on your account balances and interest rates.
- Debt consolidation: If your credit is in good shape, you may be able to get a debt consolidation loan or a balance transfer credit card. With the first option, you'll pay off your credit card debt with a personal loan. Depending on your credit, you may qualify for a lower rate than what you're paying now, and personal loans have a set repayment schedule, which can help keep you on track. With a balance transfer card, you can transfer debt from one card to another and enjoy an introductory 0% APR for a period of time, usually 12 months or more. There are often upfront fees with both options, so do your research to find the best and cheapest option for you.
- Debt management plan: If you're struggling to make your payments but aren't yet behind or you've missed one or two, consider speaking with a credit counselor. Nonprofit credit counseling agencies can put you on a debt management plan. With this arrangement, you'll make one large payment every month to the agency, and it will disburse the funds to your creditors on your behalf. These agencies may also be able to negotiate lower interest rates and monthly payments for you. However, you'll typically need to pay a modest upfront and ongoing fee for this service.
- Debt settlement: If you're well behind on your monthly payments, debt settlement may be an option to consider before bankruptcy. With this option, you'll employ a debt settlement company or law firm to negotiate with your creditors on your behalf. Before that happens, you'll need to pay into an account with the company or firm until you achieve a balance they can work with. During that time, you won't make payments to your creditors. Late payments and settled accounts can have a significant negative impact on your credit score, so avoid this method unless bankruptcy is your only other option.
As with bankruptcy, it's important to consider each option carefully and determine if it's the best path for you. Regardless of which option you choose, though, avoiding bankruptcy can make a huge difference for your future.
Make It a Habit to Monitor Your Credit
Whether you opt for bankruptcy, debt consolidation or any other of the above options, it's important to keep track of your credit score during the process.
With Experian's free credit monitoring service, you'll get free access to your FICO® Score☉ powered by Experian data. You'll also be able to view your Experian credit report, which is updated every 30 days. Other features include real-time alerts when changes are made to your credit report, including hard inquiries, new accounts and changes to your personal information.
As you stay on top of your credit, you'll be able to spot potential issues quickly and address them before they damage your credit score too much. You'll also be able to keep track of what your creditors are reporting to the credit bureaus and make sure it's accurate.
As you come out the other side of your debt repayment plan, maintaining the habit of checking your credit regularly and developing good credit habits can help you achieve your goals of rebuilding your credit history more quickly.