Understanding Bankruptcy: What To Know Before You File

If you're buried under a mountain of bills, explore your debt relief options before filing for bankruptcy.

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Written by
Carol Pope
Updated December 12, 2024
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What is bankruptcy?

 Key takeaways

 Bankruptcy is a legal process that wipes out some or all of your debt.

 You may have to sell personal possessions when filing for bankruptcy, but this usually isn’t the case.

 Bankruptcy typically affects your credit for seven to 10 years. You may find it hard to get a loan or new credit card in the first few years after filing. You might even need to ask the court for permission first, if you file Chapter 13. When you are eligible, your rates will be high.

Bankruptcy is a legal process that will hit the reset button on many of your money problems, but with big consequences. Bankruptcy impacts your credit score and your ability to borrow money in the future. In return, you may be able to wipe out most of your debt.

Certain debts may be discharged (or forgiven) if your bankruptcy case is successful. Under some types of bankruptcy, you might have to sell eligible assets to pay your debt. Other types allow you to keep your assets, but you must repay some or all of your debt within three to five years.

One of the biggest benefits of bankruptcy is the automatic stay — you’ll get one as soon as you file. An automatic stay pauses most collections, can stop wage garnishments and may help you save your home from foreclosure.

During the process, you’ll get help from a court-appointed trustee. Your trustee will handle tasks like selling your items or collecting your payments and sending them to your creditors.

According to a LendingTree study, if you have bad credit, your credit score might go up after you file for bankruptcy. Borrowers with scores between 580 and 619 saw an average increase of about 13.3 points. But if you have excellent credit, expect a steep tumble. Borrowers with 720+ credit scores had a decrease of 82.6 points, on average.

Filing for bankruptcy can be tough to swallow, but it isn’t anything to feel ashamed of. Hundreds of thousands of Americans declare bankruptcy every year. From September 2023 to September 2024, non-business bankruptcy filings went up by 15.50%.

Still, bankruptcy is probably the most drastic step you can take when it comes to your personal finances. Make sure you understand the process and its implications before you decide.

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Types of bankruptcies

There are six types of bankruptcies, and each is given a number that corresponds to a chapter of the bankruptcy code. The ones that you’re most likely to come across are Chapter 7 and Chapter 13. These bankruptcies typically apply to people, not businesses.
 
In this article, we’re going to focus on Chapters 7 and 13. Another common form is Chapter 11 bankruptcy, but it applies mostly to businesses.

What debts can you get rid of with bankruptcy?

You can discharge most debts by filing for bankruptcy, but not all.

Eligible for dischargeIneligible for discharge

 Unsecured debt from personal loans, credit cards and medical bills

 Back taxes more than three years old (as long as you filed your returns on time)

 Loans from friends and family

 Past due utility bills and rent payments

 Attorney fees

 Child support and alimony

 Back taxes less than three years old

 Federal student loans (in most cases)

 Criminal fines or restitution

 Personal injury debt due to driving while intoxicated

 Debt caused by willful and malicious injury

Bankruptcy pros and cons

The pros and cons of filing for bankruptcy are vast. The table below is just a snapshot of points you should consider.

ProsCons

 Can provide much-needed relief. Collection calls, debt lawsuits and wage garnishments generally stop after you file for bankruptcy.

 Could save your house from foreclosure. If you fold your past due mortgage payments into your repayment plan, Chapter 13 can stop foreclosure. You must also make future payments on time.

 Can save your car from repossession. If you agree to pay some or all of your car loan, Chapter 7 might stop your car from being repossessed. This is called reaffirming your debt.

 Could lead to healthier spending habits. With the right attitude, bankruptcy could be the start to a better relationship with money management.

 Can wreck your credit score. Your credit score will probably take a hard hit, and bankruptcy stays on your credit report for seven to 10 years.

 Some Chapter 13 filers aren’t allowed to borrow for three to five years. You must get permission from your trustee or the court to get a new credit card or loan while you are in repayment.

 When you are eligible, borrowing will be expensive. You might only qualify for bad-credit loans after bankruptcy, especially during the first few years. These generally come with a maximum interest rate of 35.99%.

  May be hard to rent a home. Finding a landlord to look past your bankruptcy can be tough. You may have to stick to private landlords rather than rental companies.

When can bankruptcy be a good choice?

 If you’re positive you can’t afford your debt.
 If you already have bad credit.
 If you have assets to protect.
 If you’re ready to stick to a budget and live frugally.

When can bankruptcy be a bad choice?

 If you can afford to your debt but are having a hard time juggling multiple bills.
 If you want to protect your credit score.
 If you earn at least an average income and don’t want to sell assets.
 If most of your debt is not eligible for discharge.

How to file for bankruptcy

The process of filing for bankruptcy depends on the type you’re filing. And if you’re thinking about filing for bankruptcy, you might also be thinking about filing pro se — or on your own, without a lawyer. That could be a big mistake.

“You need to talk to a lawyer,” says Phillip Shefferly, retired U.S. bankruptcy judge and adjunct professor at the University of Michigan. “What types of debts are dischargeable? What types of property can be retained as exempt? The answers to those questions require some legal analysis.

“Pro se individuals can get through Chapter 7 by filling out forms, and many get discharges even in pro se cases, but there are so many pitfalls. So many cases get dismissed because the filer didn’t file the right document, or didn’t file it on time. And then they try again, and fail again. And almost nobody gets through Chapter 13 without a lawyer.”

With that in mind, here is a step-by-step guide for filing for bankruptcy. Note that this is what to generally expect, but the process depends on whether you’re filing for Chapter 7 or Chapter 13.

  1. Complete credit counseling

    Before you can file for bankruptcy, you must attend credit counseling. Credit counselors typically work for nonprofits and help struggling consumers with debt and budgeting. Use this U.S. Department of Justice database to find an approved credit counselor near you.
  2. Hire an attorney

    It’s easy enough to say “hire an attorney,” but how do you do that if you don’t have the money? Admittedly, it can be hard. If you’re low income, you might qualify for free or low-cost services. Visit your state’s court website for more information.
  3. File your petition, pay court costs and provide paperwork

    When you file your petition and pay your court costs, you are officially declaring bankruptcy. Although you have seven to 14 days to file your supporting paperwork, do it the same day that you file to streamline things. The court will also assign you a trustee.
  4. Enter repayment (if Chapter 13)

    Chapter 13 filers must start making payments toward their repayment plan within 30 days of filing. This could happen before the meeting of creditors takes place (more on that below).
  5. Attend a meeting of creditors

    The meeting of creditors (or the 341a meeting) gives your creditors and trustee the opportunity to ask questions about your bankruptcy filing. You will be placed under oath, and the meeting can be done in person or virtually.

    The meeting of creditors usually happens between 21 and 50 days after filing for Chapter 13, and within 45 days after you file Chapter 7.
  6. Take financial management course and file it with the court

    You need to take a financial management course before the federal court will discharge your debt. If you filed Chapter 7, you have 45 days after your meeting of creditors to complete it. Chapter 13 filers need to finish theirs during their repayment period.

Bankruptcy alternatives

Bankruptcy is a huge decision. Before you file, know that there are debt relief alternatives that might make more sense for your financial situation.

 Debt consolidation

Best if you can afford to pay your debt but are juggling multiple bills. You usually need excellent credit for debt consolidation to work in your favor.

Debt consolidation is the act of taking out one loan and using it to pay multiple debts. Afterwards, you’ll only have one bill to pay — your debt consolidation loan.

If you have solid credit, consolidating could save you money. Debt consolidation loans usually come with lower interest rates than credit cards if you have a 720+ score.

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 Balance transfer credit card

Best if you can afford to pay your credit card debt and have a credit score of at least 660.

A balance transfer credit card is another way to consolidate debt. With this, you will transfer multiple credit card debts to the balance transfer card. Unlike debt consolidation loans, these cards generally come with a 0% APR intro period of six to 21 months. As long as you pay your balance off during this time, you won’t pay interest. To qualify, you’ll generally need to have good or better credit.

Most of these cards charge a balance transfer fee between 3% and 5% of the total amount you are transferring.

 Forbearance

Best if your creditor has a forbearance program and you only need a little time to get caught up.

Forbearance is a fancy word for pause. Some lenders might allow you to pause your payments so you can work on getting current. For instance, federal student loans offer forbearance programs.

Note that interest continues to accrue while you’re in forbearance. Try not to pause for too long to avoid paying more than you need to.

 Debt management plan

Best if you want to learn how to manage your finances and are ready to stop using your credit cards.

When you go to your pre-bankruptcy credit counseling, you might find that a debt management plan may be better for you than bankruptcy. Debt management plans are one of many tools that credit counselors use to help their clients.

A debt management plan is a three- to five-year payment plan that will get you out of unsecured debt. During this time, your credit counselor may also negotiate with your creditors to get lower rates.

You usually can’t use credit cards while you’re under a debt management plan, but this isn’t always a bad thing. Debt management plans are most successful when you’re ready to overhaul your spending habits.

 Debt settlement

Best if you have bad credit and more debt than you can afford but aren’t ready to file for bankruptcy.

With debt settlement, you’ll work with a third-party company that will attempt to negotiate with your creditors. During negotiations, they may get your creditors to reduce your amount of debt or lower your interest rates.

Debt settlement is risky. There’s no guarantee that your creditors will be willing to work with your debt settlement company. And by the very nature of debt settlement, your credit score will likely plummet in the process.

Most debt settlement companies will have you stop paying your credit cards and loans. Instead, the debt settlement company will put that money in an account and use it during negotiations. Your creditors will likely report these late payments to the credit bureaus, and late payments are terrible for your credit score.

Frequently asked questions

You can file for bankruptcy more than once, but if the court threw out your first case because you didn’t appear in court, you must wait 180 days to file again. The same is true if you voluntarily dismiss your case, or if you don’t follow the court orders given to you on your first bankruptcy.
 
Also, the court can throw out your case if it suspects fraud or that you’re lying about your finances.
 
Other important things to keep in mind:
 

  • You have to wait eight years between Chapter 7 filings.
  • Chapter 7 to Chapter 13 filers must wait four years between filings.
  • Chapter 13 to Chapter 7 filers may need to wait six years between filings.
  • You must wait two years between Chapter 13 filings.

The cheapest way to file for bankruptcy is to do it pro se, or on your own without a lawyer.
 
Even so, we don’t advise the DIY route. Bankruptcy laws are complicated. Just one mistake could cost you a fortune and impact your credit score for seven to 10 years.

Getting a car loan after bankruptcy is hard, but it may be possible.
 
If you filed Chapter 13, you typically need permission from your trustee or court. You’ll have to prove that you have a good reason to buy a car. Maybe your current car is unreliable and needs replacing, for example. After all, you can’t get to work if you don’t have a car.
 
Once you get permission, you may need to stick to bad-credit car loans (which have higher-than-average rates). Many lenders will automatically disqualify you with a bankruptcy on your credit history — but not all. Westlake Financial is an example of a lender that accepts bankruptcies.
 
Chapter 7 filers can sometimes get a car loan during bankruptcy. However, you usually need to be employed, and you must wait until the meeting of creditors is over. Once your debt is discharged, you get a car loan whenever you find a lender to approve you.

Some people can get a personal loan after bankruptcy, but it depends. If you filed for Chapter 13, you usually need permission from your trustee or the court to take out a new loan. Then, you’ll need to find a lender to approve you.
 
You typically can’t get a personal loan during Chapter 7 bankruptcy. But you can after your debts are discharged, and you don’t need permission. Again, you may have a hard time finding a bankruptcy-friendly lender.

After filing for bankruptcy, you must go through a waiting period before you can apply for most kinds of mortgages. Waiting periods vary by type of bankruptcy and mortgage, but generally:
 

  • Conventional mortgages have a waiting period of two to four years.
  • FHA loans have a waiting period of one to two years.
  • VA loans have a waiting period of one to two years.
  • USDA loans have a waiting period of one to three years.

For more details, read Getting a Mortgage After Bankruptcy: How To Do It.