Bankruptcy: Going "Belly Up" Doesn't Mean Your Credit Stays Down

By John L. Fischer, Personal Finance Writer   

About two million Americans declare bankruptcy every year1, while untold hundreds of thousands more people qualify but never take official steps to file. Bankruptcy is still an undesirable label to attach to your name, after all.

So what do you do if you're having serious money problems? One way or another, your debts must be accounted for eventually.

The good news is that bankruptcy is no longer a death sentence for your credit history. And if you're teetering on bankruptcy anyway, your credit rating is already suffering.

Bottom line? You might be better off in the long run if you say "uncle" to your outstanding debts now. Consider consulting a financial advisor to determine your specific options.

What does bankruptcy do to your credit?

When you declare bankruptcy, you tell banks, creditors and lenders, "I need a fresh start." When you do that, the following things will happen to your credit:

  • Bankruptcy claims stay on your credit record for 7-10 years. Look at this as a trade-off: In exchange for wiping all your debts clean, your credit record must show you opted for bankruptcy.
  • A lot of creditors will see you as a risk. When you declare bankruptcy, you're saying, "I can't pay my debts." That makes most creditors nervous. There's a plus side to that, though: Creditors also know that, after you declare bankruptcy, your future earnings are free from past debt.
  • Your credit score will go down. Some experts say that your credit rating will drop more than 200 points. That number can vary, but there's no way around it: Your credit score will be much lower for several years. Remember, think "trade-off."
  • You'll have to pay higher interest rates. Declaring bankruptcy doesn't mean you can't buy a house or rent an apartment. But any line of credit you get is likely to be much more expensive. Banks will still want your money; they'll just want more of it, in the form of higher interest rates, to try to protect their investment.

No one grows up dreaming of filing for bankruptcy, but if you have to do so, it's not a death sentence for your credit history.  It's more of a "do-over," although you'll be starting over from a less desirable position.

Footnotes
1 American Bankruptcy Institute, Consumer Bankruptcy Center