Anecdotally speaking, filing for Chapter 7 bankruptcy can be – in and of itself – a relief.
Most people who take the step of filing a bankruptcy petition have been in a state of fret and worry for months – maybe years – in the period leading up to the filing. The constancy of vexing collection calls, the threats of legal action coming from all sides, and trying to “manage” bad credit while still living day-to-day must be a “living nightmare” for those who find themselves in severe financial straits.
In a Chapter 7 (“liquidation bankruptcy”), relief from the hassles and harassment of collection efforts comes instantly with the filing of the petition. The automatic stay provisions for all bankruptcy chapters “attach” with the filing. This means that ALL collection efforts (foreclosures, wage garnishments, and even the collection calls that come day and night) are halted by the stay.
Many people struggling to “manage” bad credit are not aware of this stress-saving provision of the Bankruptcy Code. For those who are aware of it, the automatic stay provision and its immediate positive effect for the debtor is the #1 reason debtors file for bankruptcy in the first place. That is – to obtain a large measure of relief after months and years of worry.
Post-bankruptcy, a Chapter 7 bankruptcy discharge gives the debtor the relief of a clean financial slate. Along with the relief obtained, however, the Chapter 7 discharge gives the debtor the new worry that he will never have decent credit again.
If a debtor was eligible to file for Chapter 7 bankruptcy, chances are his finances were in shambles and he had nothing more than a pile of credit obligations and monumental stress to show for it. That however, is decidedly different from a common misconception – i.e. that bankruptcy will ruin a person’s financial future in perpetuity.
As a matter of simple truth, a bankrupt debtor can begin to restore his credit immediately after receiving a discharge of prior debt and obtaining the much-sought-after “clear financial slate”.
While the record of a bankruptcy will remain on a debtor’s credit report for up to ten years, the negative impact will fade over time. A debtor can help offset the negative impacts to a credit report by working to add positive comments and information to the report as a step toward rebuilding and repairing credit.
Bankruptcy – and especially Chapter 7 Bankruptcy – is a form of credit repair.
Four Reasons to Repair Credit After Bankruptcy
Rebuilding credit post-bankruptcy begins… immediately.
Strict budgeting, obtaining secured credit or a small loan, on-time payments on ALL debt, and other measures are all key factors.
Reason One: The “old ways” of dealing with finances – how a debtor got into trouble in the first place – need to be replaced with sound, consistent financial management practices post-bankruptcy.
Begin with the basics
The first step is to create a monthly budget (*) that tracks both income and expenses. A budget will help a debtor avoid overspending.
The budget will also help with building an emergency reserve fund. According to recent research by the Urban Institute, it’s been established that having as little as $250 in a savings account for an uncommon or unexpected expense helps protect families from having to resort to payday loans or charging beyond the budget. A reserve fund, once established, needs to be grown on a regular basis; reserve funds become savings accounts.
A primary “rule” in rebuilding credit is to avoid starting a new “debt spiral”
(*) Note: “Budgeting” should have been explained and discussed in the Pre-Discharge Counseling in Chapter 7 Bankruptcy. Assistance is also available through non-profit Credit Counseling Agencies that offer fee basic consumer help on a range of issues, including budgeting…
Post-bankruptcy, individuals need to change their habits. They need to adopt new methods and strategies for handling their finances. They must be consistent and persistent in all of their efforts. Trying to repair one’s credit post-bankruptcy is a lot like trying to stay sober after having gotten “cleaned up” – it’s a “one-day-at-a-time” proposition and consistent persistence is an absolute must.
It is, after all, possible to “fall off the credit repair wagon” just as it is possible to “fall off the wagon” of sobriety.
Reason Two: Credit repair requires a credit “strategy”. Having a credit and financial affairs strategy is both a requirement and reason for undertaking credit repair and restoration.
The first step is to do a thorough assessment of the current financial situation using a credit report (*) as the starting point.
Credit Reports give a comprehensive look at financial situations, the root causes of lowered credit scores, and the like. The information contained in a credit report can be very helpful in reestablishing a good credit rating and maintaining it over the long haul.
There are three major credit reporting agencies in the United States – they are, TransUnion, Experian, and Equifax.
All individuals are entitled to one free credit report from each of the three major reporting entities, every 12 months.
(*) Note: Annual free credit reports from the 3 major credit reporting agencies is mandated by law and by rules of the Federal Trade Commission. Annual reports are available, free of charge from annualcreditreport.com (this website is the only site authorized by the federal government to provide this service)
Another consistent step to adopt and take is to keep track of your credit score on a monthly basis. There are several websites – such as NerdWallet – where free credit score resources are available. A caution is due here – when using a credit score, be sure to consistently use the same source and criteria each time to avoid “apples-to-oranges” comparisons from month-to-month or source-to-source.
Keep in mind that post-bankruptcy there will be fresh negative credit information on the debtor’s credit report – the bankruptcy will show on the report for ten years post-bankruptcy. Any debtor can (and should, consistently…) challenge information that is in error, outdated, and/or misleading.
Reason Three: Being viewed by lenders and other credit providers as “risky” is a consequence of having a poor credit reputation. Changing how lenders view a post-bankruptcy debtor is another reason that credit restoration after a bankruptcy is a positive choice.
For troubled debtors, their pre-bankruptcy payment and default history makes the debtor look like a “credit risk” to lenders and others who determine who gets and who doesn’t get a loan, a credit card, or even an apartment.
As part of a credit repair strategy, debtors can provide extra assurances to lenders and others that they will not be on the losing end if they lend money to the debtor. Experts in the field of credit repair point to four ways that are helpful in getting credit and improving credit scores. Those are:
- Obtain a Secured Loan – either by borrowing against money already on deposit with a credit union or community bank – or – having the loan proceeds deposited in an escrow for release upon completion of payments
- Obtain a Secured Credit Card – and use deposits to the card as “secured credit” (the card is used like a regular credit card, and the “credit limit” on the card is typically the amount placed on deposit against the card)
- Obtain a Co-signed loan or credit card – usually with a close friend or family member who is willing to risk damage to his credit reputation in case of a default or other negative action
- Obtain “Authorized User” Status on another’s credit card – with an understanding that the payment activity of the authorized user is reported as if he were the owner of the account
With all of the above, it is important to ascertain up front: 1) if the credit union or commercial bank reports activity to all three credit reporting agencies; and, 2) with an “authorized user” account, make sure that the authorized user’s payment and credit-building activities are likewise reported to the Big 3 reporting agencies.
Reason Four: Maintaining good credit, once “repaired”, is key. Climbing out of debt is never easy – not falling back into “old ways” is difficult. The end result – credit that one can take pride in – is the fourth reason to undertake credit repair and restoration.
Rebuilding credit is a slow process. It will take years to attain a respectable credit score and a clean credit report. In the beginning, post-bankruptcy lenders and others who determine credit worthiness will be wary of a debtor who had to file for bankruptcy.
There are, however, several factors that will work in the debtor’s favor. For one, since a recently discharged bankrupt is estopped from filing for bankruptcy for eight years after a previous discharge, lenders have the security of knowing that short-term risk has thereby been ameliorated somewhat.
Another factor that tends to work in a debtor’s favor is having to accept lesser types of credit (i.e. “secured” or co-signed cards and loans). Lenders want to “test the waters” before treating a debtor who has gone through bankruptcy in the same manner as those who haven’t suffered that fate.
Once a debtor gets a lender or multiple lenders to extend credit, it is critical for the debtor to make all payments on time, every time. Those working to reestablish their credit cannot afford to suffer even one late or missed payment. Additionally, debtors are advised to keep their balances low – less than 30% of the credit limit is advisable, and less than 10% is ideal.
Keep in mind that those who extend credit report to all three credit reporting firms every month without fail. On-time payments, no late payments, and maintaining good credit practices will show up on credit reports immediately. Each on-time payment is a PLUS or positive – just one late payment or missed payment can send a credit score plummeting.
Lenders and other credit extenders are constantly vigilant for both positive AND negative credit activity. Positive activity always HELPS in restoring credit; negative credit activity, likewise, always HURTS the process and the debtor.
Picture Credit: bruce mars