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| The Basics |
The long, hard road back from
bankruptcy
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Yes,
Chapter 7 or Chapter 13 can give you a fresh start. But
bankruptcy also means credit agencies and others in the know
will look at you with suspicion, perhaps for years. Here's how
to rebuild your financial life.
By Dana Dratch, Bankrate.com
You've declared bankruptcy. Now
what?
You have a fresh start, and some new challenges. Your credit
rating, which probably wasn't all that great already, has
taken a hit. The bankruptcy will stay on your credit report
for up to 10 years. Lenders see you as a bad risk because
you've legally written off at least some of your past debts.
For a period of time you may not be able to get a loan or
credit card. Once you do, the interest rates and fees attached
will be punishing.
"The purpose of filing is a safety valve," says
Roger M. Whelan, resident scholar of the American
Bankruptcy Institute, a nonprofit professional
organization. "Thank God, the day in which it was like
wearing a blazing star on your forehead is over."
No-frills lifestyle
If you filed a Chapter 13, you're paying off some of your
debts in what's known as reorganization. For three to five
years, the court allows you a set amount to live on. A
court-appointed trustee divides the rest among your creditors
each month.
That means a very no-frills lifestyle. Sometimes it means
changing the basics in your life, like how much you pay for
shelter and groceries every month. And you can't take on new
debt like a credit card or car loan without the court's
permission.
At the end of reorganization, your obligations are gone and
your money is yours again. But the fact that you've declared
bankruptcy, even though you paid back at least some of your
debt, will stay with you for five to seven more years.
If you filed a Chapter 7, you walked away from most of the
debt. Your salary is yours, if you have one, but the
bankruptcy stays on your credit reports for 10 years. You have
to start living on cash, rather than counting on any form of
credit. Building an emergency fund is the key to that. In
addition, creditors may view you as a worse risk than someone
who filed a Chapter 13, which means high interest rates and
punitive fees when you do get loans or credit.
The 800-pound gorilla: getting
credit
It's the double-edged sword of post-bankruptcy life:
mismanaging credit may have gotten you into trouble (or just
magnified other problems), but you have to get credit to
rebuild your financial life.
After your bankruptcy has been discharged, right away for a
Chapter 7 or after reorganization for a Chapter 13, you need
to re-establish good credit. The rule of thumb: there are no
rules. How fast you build back your credit will depend on a
lot of factors that vary widely.
It also depends on what resources you have. Obviously, if you
have a high-dollar income, you have an edge. If you managed to
hang onto your house, mortgage payments on time will improve
your credit report. (Many apartments don't report to credit
bureaus, so those payments will keep a roof over your head but
won't help rebuild your credit, says John Ulzheimer, business
development manager for MyFico.com,
a division of Fair Isaac, the company that developed credit
scoring.)
Ironically, people who file a Chapter 7 may have an easier
time re-establishing credit, says Henry Sommer, an attorney
and author of "Consumer
Bankruptcy: the Complete Guide to Chapter 7 and Chapter 13
Personal Bankruptcy." "While you're in a Chapter
13 (reorganization) your options are somewhat limited in terms
of credit."
You can't do much to rebuild credit until your discharge under
Chapter 13 is complete. But someone who went through a Chapter
7 at the same time is already well on the way to repairing
credit.
Bankruptcy experts insist that attitude and persistence can
make a difference.
"The consumer who's going to recover faster is the
consumer who jumps back in," says Ulzheimer.
"Financial capacity is one thing," says Tahira K.
Hira, a professor at Iowa State University who specializes in
consumer economics and family finance. "Mental or
attitudinal capacity is the other thing."
So if you build a savings account, carry no debts and have an
emergency fund, you're saying, "Look, I can control my
behavior," she says. "It depends on how good a
salesperson you are and how good your behavior has been."
But you have to shop lenders, "and there will be a price
attached, which is higher interest," says Hira.
In the first six months after your bankruptcy discharge, you
want to demonstrate you've learned from your financial
mistakes. You've got to be a model citizen from here on when
it comes to financial management. That means making all your
payments on time and building up a savings account for those
inevitable rainy days. If you've managed to keep a credit card
through the bankruptcy, use it once in a while to buy a
necessity and pay it off immediately.
Try a secure card
If you don't have a credit card, establish good financial
habits and apply for a secure card. "A general guideline
would be six months (after your discharge)," says Whelan,
a bankruptcy judge for 12 years.
You'll put money in an account. The credit card company will
give you a credit limit of that same amount. When the bill
comes in, you pay it, as you would with a normal card. You get
the deposit back only when you close the account or switch to
an unsecured version.
Some card companies may also be willing to give you a credit
limit higher than your actual deposit, says Curtis Arnold,
founder and spokesperson for Cardratings.com. Tip: Look for a
card that reports to one, and preferably all, of the credit
bureaus.
The good news: Many secured cards report as unsecured cards,
says Arnold. "And assuming your account's in good
standing, once you've had it for a year you should start
getting halfway decent offers on unsecured cards."
Some smart shopping tips: Look for names you recognize and the
lowest fees and rates you can find. And only consider a card
that bills any fees to your card or bills you directly after
you receive it. When they want money up front, chances are
it's a scam, says Arnold.
"Generally, we say that if you get a secured card,
usually within six months to a year of good payment you can
qualify for an unsecured card," says Arnold. But don't
apply for more than one every six months, he says. Otherwise
the inquiries will zing your credit. And be prepared for
sticker shock with APRs from the high teens up to the 20s, he
says.
One of the biggest problems with bankruptcy is that borrowing
money is going to cost more for a while. A lot more. If you
pay off the cards every month, you won't feel the sting of
higher interest rates. But subprime lenders are levying a host
of fees, both one-time and annual, just for the privilege of
carrying their cards.
"Usually they tack on application fees, processing fees
and who knows what," says Arnold. "It's not uncommon
to get hit with $100 to $300 that first year and $100 to $200
a year ongoing. And this is the industry standard."
But you can win your way back with smart spending habits.
"If you keep your nose clean and make your payments,
within 24 months you can probably qualify for a halfway decent
unsecured card," says Arnold. Granted it won't be the 5%
APR you see on TV ads, but you might get one for 10%, he says.
If you've been through bankruptcy, you want to keep an eye on
your credit-rating score. Appearing on your credit reports,
your score predicts the likelihood you will be delinquent on a
bill in the next two years, says Ulzheimer.
Yes, bankruptcy will zing your score. "But most people
who file have delinquencies and issues already on their credit
report," he says. "As such, the score has already
taken a severe hit."
Side effects
Because everybody and his brother is looking at your credit
reports these days, bankruptcy may touch parts of your life
you hadn't even considered. It could send your insurance rates
up. "Credit is one of the factors that many insurance
companies use in pricing their policies," says Jeanne
Salvatore, vice president of consumer affairs for the
Insurance Information Institute.
If you're facing a Chapter 13 and you have kids in private
school, the courts may make you put them in public schools,
says Whelan.
"The judge has to set (the filers') standard of
living," he says. And a lot will depend on the judge and
what he or she sees as necessary living expenses. However,
there is some latitude. For instance, if a child has learning
disabilities and needs a special private school, that would be
a different matter, Whelan says.
While it's illegal for employers to discriminate against
someone who has declared bankruptcy, many employers do look at
credit reports before hiring or promoting. "If you have
two people who are equally qualified, it's hard for it not to
enter the picture," says Hira.
One thing you can do: If there was a compelling reason for
your bankruptcy, such as a divorce, business failure or sick
child, list that on your credit report. Your notation has to
be 100 words or less. It won't affect your credit score, but
in cases where there is a judgment call like employment or
insurance, it could help you.
There is also human nature to consider. Bankruptcy records are
public information. And with this the age of computerization,
"It's very difficult to keep it private," says
Whelan. In addition, if you are having your Chapter 13
payments taken out via payroll deduction -- a favorite of the
courts, says Whelan -- then at least one person in your
workplace will know about your financial situation. (Another
option is to have your check directly deposited and an
immediate bank withdrawal made the same day. That avoids
getting your office involved, says Hira.)
Your financial future
Any bankruptcy is difficult. And most people who file have
been fighting financial problems for at least two to three
years. "And there's a psychological unhappiness about
doing it," says Seattle bankruptcy attorney Ken Weil.
"It's an admission of failure. Nobody is ever happy to
come see me."
In addition, those who file Chapter 13 are looking at several
years on a strict money diet.
"What I tell clients before they file: 'You'll feel
wonderful when you file,'" says Weil. "'You're
dealing with a problem that's been beating you up for so long.
This lasts up to six months. Somewhere on the back end -- 30
months out -- you can see the light at the end of the tunnel.
And at the end you feel fantastic. But what I find is that
somewhere in the middle there is going to just be a horrible
point. (You feel) I can't do this anymore.'"
The best news: Time heals. Sure, it takes a decade for the
bankruptcy to fall off your credit report. But, if you
aggressively practice good credit, the farther out you get,
the less it will matter. That means lower rates, lower fees
and better deals on car and home loans.
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