Bankruptcy vs Debt Consolidation: Credit score recovery – a detailed examination
Ah, Bankruptcy. How terrible of you! Society, friends and neighbors boo you. Debt consolidators tell you this as they promote their program.
But, what are the real issues with “both” bankruptcy vs debt consolidation?
- 1. Your credit score
2. Getting rid of your debts
3. Keeping key assets
Let’s closely examine what happens to your credit score in bankruptcy vs debt consolidation. In both cases, your credit score will have suffered tremendously.
IMPORTANT: Because this is a detailed examination, please read my previous blog: Credit Score Perils of Debt Consolidation
Here are three important rules to understand with bankruptcy:
Rule #1: Bankruptcy stays on your credit report for ten years. True, however, see rule #2.
Rule #2: Credit scoring considers a bankruptcy mainly for two years.
Rule #3: Many creditors deem bankruptcy as a fresh start with debt cleared away for their lending.
This will be our sample starting point: Your credit score is 700. You have a stable job and you are paying your bills on time. Suddenly you lose your job, use up your savings and start to fall further behind on your bills. Creditors are pounding you and you have to do something. Your credit score is now at 590.
At this point, you are considering bankruptcy chapter 7: liquidation of debts, bankruptcy chapter 13: restructuring your debts, or using a debt consolidator.
Lets chart the differences:
|BK Chapter 7 liquidation||BK Chapter 13 reorganization||Debt Consolidation|
|Duration of program||5 months avg||4 years avg||3 years avg|
|Immediate effect on creditors||Stops all collections, liens or garnishments||Stops all collections, liens or garnishments||Nothing, negotiations with your creditors begin after your fee period, usually 6 to 8 months. Your creditors are put on notice but there is no legal effect, collections continue.|
|Getting rid of unsecured debts||Yes||40% reduction with payment plan||60% reduction with payment plan|
|Secured assets||Liquidated||Restructured payments||Not addressed|
|Future creditors viewpoint||Seen as a fresh start to many creditors.||Seen as a cautious fresh start. Your payment plan will be scrutinized||Disadvantage. Remember your creditors have to wait until your fee period has been paid.|
|When can your credit score start to recover?||6 months avg||6 months avg||18 months or ½ the duration, on avg|
|credit score before problems||700||700||700|
|credit score after problems||590||590||590|
|credit score 30 days after filing||545||545||570|
|credit score 3 months after filing||545||545||545|
|credit score 9 months after filing, with moderate new debt assumed and on time payments||610||575 credit score growth is held down because your debt to income ratio includes your bk13 payments||545 can’t get new loans or debt yet|
|credit score 12 months after filing, same criteria||635||605||545 can’t get new loans or debt yet|
|credit score 18 months after filing, same criteria||660||640||545 can’t get new loans or debt yet|
|credit score 24 months after filing, same criteria||670||660||575|
|credit score 36 months after filing, same criteria||670||685 a bit higher because your nearing the end of your bk13 payment program||630|
This chart is an example only, each individual will vary. No specific recommendations are given.
As you can see, there are significant differences to your credit score based on which program you choose.
If you need any of these programs, consider the immediate effect on your creditors, the duration of the program, the reduction of your debts and very importantly, your credit score.
My recommendation is to first use the SmartCredit.com Action button to negotiate your debt directly. This can offer you a way out of your debt with minimum credit score and financial impact. Then, if you must, do either bankruptcy or debt consolidation and give serious thought to the credit score effect.
David B. Coulter – founder and CEO of Smart Credit