How Bankruptcy Affects Your Credit Score

A person’s life can be made easier (or harder) by their three-digit credit score. An American’s credit score determines a lot in that person’s present and future. For example, it will affect which loans you can get, interest rates, insurance coverage, and even where you can afford to live. Knowing all this, it’s not surprising that people are concerned about their credit score after filing for bankruptcy. In this article, you will understand how bankruptcy affects your credit score and how to best handle it. 

How Does Bankruptcy Work?

Bankruptcy is a tool that helps people who are facing debt they can not pay back. People can file different bankruptcy chapters to help them forgive their debt or help them pay back some of it. 

The two most common forms of bankruptcy that individuals file under are chapters 7 and 13. Each of these will affect the person’s credit score differently. Once you file, it will be reflected in your credit history, but how your score is affected (and for how long) will depend on a couple of factors, such as: 

  • What was your credit score before the bankruptcy filing? 
  • What chapter did you file under? 
  • What are you doing to rebuild your credit once the proceeding is complete?

The effect on your credit score is a good conversation to have when consulting with attorneys on whether bankruptcy is the best option for your financial situation. 

How Does Chapter 7 Affect Credit Scores? 

A chapter 7 bankruptcy is also known as a “liquidation” bankruptcy. This type of chapter is built for people who cannot repay their debts. The debtor will give up assets to assist in the payment of creditors. In some cases, the person’s assets won’t cover all the cost of the debt. However, the court will still clear eligible debts. 

Because this type of bankruptcy does not require repayment, this has a more significant impact on a credit score. In addition, a chapter 7 bankruptcy will appear on a credit report for up to 10 years. As a result, financial companies may consider the person’s credit as more of a risk. 

How hard the credit score is hit is based on the person’s current score at the time of filing. A bigger impact will be felt if a person has a good credit score before filing. But, if a person’s credit score is already low, it may not decrease as much. 

People between the good and excellent range can see their credit scores drop by 200 points. If a person is between the fair and poor range, they could see their points drop by 150. 

Credit Score Anticipated Point Drop After Filing 
800 -850 200 points 
740 – 799 200 points 
670 – 739 200 points 
580 – 669 130 – 150 points 
300 – 579 130 – 150 points 

How Does Chapter 13 Affect Credit Scores?

Chapter 13 is commonly referred to as “wage earners” bankruptcy. This type of proceeding will assist people in a repayment plan for their debt. People with a regular income stream are best suited for this chapter. The repayment plan will typically last between three to five years. 

When a person files for chapter 13, it will stay on their credit score for up to seven years. It is a shorter period than chapter 7 because the person is paying back some or all of their debt. In addition, financial institutions may view people in chapter 13 more favorably because of the repayment. When people file for chapter 13, their credit score will usually drop between 150 to 200 points. The common score after filing for bankruptcy would be 579. 

Bankruptcy Let’s You Rebuild Your Score

Although your credit score will take a hit from the bankruptcy proceeding, you won’t have bad credit forever. There are many ways that people can rebuild their credit after bankruptcy, and it can be even better than before.  The key to rebuilding towards a better credit score is to take action against your debts. Filing for bankruptcy and regaining control of your finances will give you a chance at rebuilding the score. The longer a person ignores debt issues, the longer it will take them to ultimately rebuild  their credit. 

In chapters 7 and 13, there are ways to help rebuild a credit score. Chapter 7 will take a few months for the process to be completed. However, after the bankruptcy, people can get right to work on rebuilding their credit. Chapter 13 bankruptcy will last for years, but there are still ways people can improve their credit during the process. 

The best way to improve credit is to be consistent with money management and make smart financial decisions. 

The Road to Rebuilding Credit Scores 

Credit Cards are a great way to rebuild credit. The reason it’s so helpful is that the card’s account and activity are reported to major credit bureaus from the credit card issuers. That information is taken to create credit reports reflected in a person’s score. So, a person’s good card activity will bring up their score.

When filing for bankruptcy, a person won’t be able to obtain a credit card during the proceedings. Chapter 7 will take four to six months to complete. After that, people can apply for a new credit card. Chapter 13 filers will have to get approval from the court to get a credit card, or they can wait for their bankruptcy to end, which will take years. 

Credit card options may be limited for those in this situation. However, you can still get a card to help improve your credit. The best credit card for this is a secured card. With this card, you must send the issuer a refundable security deposit to open the account. These cards often come with high-interest rates, so practice budgeting. Over time, this will help you get better credit card options. Pay bills on time or before the notice is due. This will reflect well on an activity report. It’s best to address the bills first and then pay back the credit card. If the card is used for shopping, it is easier to overspend. 

If possible, a person can ask a family member or friend to make them an authorized user on their credit card. As that primary user pays their credit card bills on time, that good behavior will also be added to the activity of your report. If you decide this is a better fit, choose that individual wisely because what they do will affect your credit score. 

A card user must maintain a low utilization rate. This means you will need to use less than your available credit line. When you do this, it shows that you don’t overspend, thus demonstrating sound money management.

Student loans another avenue to improve credit scores. These loans typically can’t be discharged in the bankruptcy process. The person is still responsible for paying the money back. The good news is that paying back these loans on time improves a person’s credit score. Good activity will be added to the credit report as you keep paying them on time.

Check your credit report. Staying on top of it will make it easier to see mistakes or suspicious behavior. In addition, a person can check their credit score for free with sites like Credit Karma or AnnualCreditReport, which get their information from Equifax, Experian, and TransUnion. Sometimes the banks will allow their customers to check their credit score for free. Taking advantage of these tools will allow you to catch errors and missing information in the credit score. When someone catches an error, they can dispute it and have it removed from their report. 

Diversify credit. Having different types of credit lines and loans can actually boost a credit score. Along with a boost in credit scores, having a mixture of credit cards, car loans, and personal loans can meet different financial needs. For example, if you don’t have all the money to buy a car outright, getting a car loan will help you get that car. As car payments are made on time, your credit will reflect that responsible behavior. 

Build an emergency fund. Although this isn’t directly attached to your credit score, doing this will help you improve your financial stability. According to CBS news, most Americans will have difficulty paying a $1,000 emergency cost. When a person doesn’t have such funds, they typically will turn to their credit cards. Because that emergency cost is money the person does not have, there is a risk of digging themselves into deeper debt, which will reflect poorly on a credit report. This can be avoided by saving up an emergency fund. Experts recommend people save at least three months’ worth of income. 

How We Can Help

Understanding bankruptcy and what can happen to your credit score can be stressful. While you can navigate this complex situation independently, it’s best to rely on a lawyer’s expertise. At Rosenblum Law, our attorneys will help you determine if filing for bankruptcy is in your best interest and, if so, which filing will best meet your needs and situation. We’ll also help you understand how such action can affect your credit score. Contact us for a free consultation today by calling 888-815-3649. 

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