Let’s get this out of the way first — the decision to declare bankruptcy is primarily a financial one. While creditors and some pundits love to paint bankruptcy filers as irresponsible deadbeats, now is not the time to have a prolonged moral argument with yourself over filing. If you’re broke, you’re broke, and probably becoming more so with every passing week. We’re going to assume you’re filing because you need to file, not that you’re taking advantage of a system.
Making the decision
It’s important to be honest with yourself about your finances. This is the time to go over all your finances and figure out how long it’d take to dig yourself out of debt. Contact creditors to see if you can work out a payment plan or get a temporary forbearance.
If that doesn’t work out, or it does and you’re still struggling to keep the lights on, bankruptcy is probably the best option. Other signs include receiving so many collection calls that you begin to recognize the area codes, receiving pink and yellow bills in the mail and having to lie to friends and family about how all those phone calls you’re getting aren’t because you’re extremely popular, but because someone in a call center needs to urgently speak with you “regarding an important financial matter.”
Once you make the decision to file, focus on moving forward instead of wasting energy dwelling on past mistakes. You’re going to need that energy in order to get through all the bankruptcy paperwork.
When bankruptcy is actually the responsible choice
If you’re struggling to pay basic bills like your mortgage and utilities, it can actually be pragmatic to seriously consider bankruptcy as an option. Because if you don’t pay your creditors, the financial ramifications can last just as long as bankruptcy or longer, and you’ll probably end up losing more money long term.
Why? Well, while there’s no debtors prison in the United States, that won’t stop creditors from potentially making your life hell for a really, really long time.
Say, for example, you default on a $5,000 credit card. You’re broke and can’t pay. If you choose not to file bankruptcy, the debt will be passed on to a collection agency. Interest and fees will be added at an astounding pace. If the debt is substantial (and if you’re considering bankruptcy, it probably is), creditors can quickly turn a past due account into a legal issue. Once a creditor gets a judgment against you for a past debt, they are legally able to garnish your wages, place a lien on your property and in some states, levy your bank account. Oh, and judgements stay on your credit report for a minimum of seven years, just like bankruptcy. Many states allow even longer for creditors to collect on judgements, and some allow creditors to “renew” judgements once they expire.
Do you need to hire a bankruptcy lawyer?
If you have a complicated estate, hate paperwork and are confused by the entire process, hiring an attorney can make sense. Make sure you can swing it financially, though. Check to see if your attorney offers an installment plan for fees to make the bill more manageable. Given the complicated and paperwork-intensive nature of bankruptcy filings, the U.S. Bankruptcy Court highly recommends hiring an attorney.
Don’t despair if you’re truly broke and can’t afford a lawyer. You can still file, it’s just going to take a lot more elbow grease. Filing without an attorney is referred to filing “pro se.” In most cases, you’ll just have to pay the costs of filing fees. And if you don’t mind a few extra trips to the courthouse, under certain circumstances the court will waive or reduce bankruptcy filing fees. Each state is different, so check with your state courthouse on the requirements and necessary paperwork.
If you do decide to undertake filing without the help of an attorney, at least invest in a few good books on the subject.
Make sure you have realistic expectations
1. Filing bankruptcy costs money.
As ironic as it may seem, it will cost money to prove to creditors that you’re broke. The U.S. Courts reports that the average filing fees for bankruptcy are around $306 for Chapter 7 and $281 for Chapter 13. If you choose to hire an attorney to help you with bankruptcy, expect to total costs to be around $1200-$1800 above the filing fee.
2. Most bankruptcy filings do not “erase” all debt
Bankruptcy laws drastically changed in 2005, adjusting the criteria on filing for Chapter 7 and Chapter 13 bankruptcy. Chapter 7 erases most debts. Chapter 13 lays out all your finances bare and works with your creditors to come up with an affordable long-term payment plan to repay your debts. Neither will get rid of student loans.
Obviously Chapter 7 is the most attractive option, but it comes with strings attached. The government uses the “bankruptcy means test” to determine which type of bankruptcy for which you should file. To qualify for Chapter 7, your average monthly income over the past six months must be less than or equal to the median income level for your state. In addition, your disposable income after subtracting expenses and debt payments should be close to nonexistent.
If you make too much money or have too much disposable income, you’ll need to file for Chapter 13. A Chapter 13 bankruptcy will create a payment plan to repay your debts over the span of three to five years.
3. Before you can file for bankruptcy, you must take credit counseling
You’ll need to submit a certificate of credit counseling completed within the past six months when you file your bankruptcy petition. Most counseling sessions can be completed online. The Justice Department has a list of approved credit counseling agencies here.
4. You must be highly organized
Bankruptcy filings are filled with complicated forms and deadline-sensitive documentation. You’ll need to organize your personal financial paperwork and become familiar with each step of the process. An attorney can help with this, which is where they become worth their fee. Just to file a petition for bankruptcy requires almost a dozen (or more) forms.
5. The bankruptcy process takes longer than you think
Once you file for bankruptcy, the court will set a date for a meeting of creditors to go over your debts. A bankruptcy trustee will be assigned by the courts to examine your assets and debts. This trustee will request lots of paperwork to document your assets and debts.
Generally, the court sets a date for the initial meeting within one or two months. The paperwork and trustee issues can take several more.
On average, Chapter 7 bankruptcy can take from four to six months from filing date to discharge. A Chapter 13 bankruptcy can take up to five years from filing until discharge, depending on the payment plan.
American Bar Association, Division for Public Education, "Law issues for consuemers: Bankruptcy"
United States Federal Courts, "Bankruptcy basics: Chapter 7"
United States Federal Courts, "Bankruptcy basics: Chapter 13"
United States Federal Courts, "The bankruptcy process"