One of the biggest concerns for those filing bankruptcy is the impact it will have on their credit score.
“If I file bankruptcy it will ruin my credit,” says nearly every client I’ve consulted with in the past 30 years.
According to myfico.com “[a] bankruptcy will always be considered a very negative event by your FICO® score.”
However, that “negative event” is very temporary and I am here to tell you that most of my client’s credit scores actually increase within a few months after they receive their bankruptcy discharge.
What is the Status of Your Credit Report Now?
The extent to which bankruptcy will temporarily affect your credit and credit score depends in part on what your credit situation is before you file.
Is your credit score in the 800s now, or is it already suffering from negatives such as late charges, judgments, or similar problems?
Obviously if you have a high credit score before you file bankruptcy, it’s going to drop a bit after you file, before it goes back up again.
If you don’t know your credit score, you can order a free report from annualcreditreport.com which is actually free, unlike some other companies whose “free” reports aren’t really free.
Most people who need to file bankruptcy already have late charges, judgments, and possibly evictions or foreclosures on their record and their credit scores have usually suffered as a result.
And if they don’t, they are on a path to get there soon.
Bankruptcy Actually Improves Credit Scores
After a bankruptcy discharge is received you can start rebuilding your credit immediately. Whereas, without bankruptcy, there are often multiple different “negatives” on a credit report from many creditors, all with different time periods running before they can be removed.
Without a bankruptcy fresh start point, there is an inherent difficulty in rebuilding credit.
Most have multiple different debts. Each has its own 7-year time periods running for affecting your credit. And each time there is another late charge, or judgment, or communication with the creditor, it restarts the time period running.
There is no global “fresh start” outside of bankruptcy, so your credit score is not going to increase much until all negatives on your credit report are resolved or “fall off” after the 7 years.
In other words, it’s extremely difficult to improve your credit score when you still have delinquent debts.
However, once a bankruptcy is filed and a discharge of debts is received, a new time period starts running. Everything positive that occurs from that point will increase the credit score, and every day that goes by, the bankruptcy should carry less weight in the score calculations.
With proper steps taken after bankruptcy, most of my California clients are able to get their credit scores back into the 700s+ within a year after filing bankruptcy. And within 1-2 years, most are able to qualify for large loans, such as a loan to purchase a home.
How Long Does Bankruptcy Stay on My Credit Record?
Credit reporting agencies are allowed to report a bankruptcy for up to 10 years from the date it is filed. But the impact of the bankruptcy on the credit score will lessen over time as you rebuild your credit.
As I mentioned in my article on renting after bankruptcy, there will always be some who will penalize people for having filed bankruptcy regardless of the credit score and other factors.
But the most important factor to to any landlord or other party extending credit is: How likely is it that you will repay on time?
Having just eliminated a bunch of debt obligations makes it far more likely than before that you can meet your new obligations.
Of course your income and job status factor into the analysis as well, but in this circumstance, bankruptcy can actually improve your ability to obtain loans.
I’ve had many clients qualify for home loans a mere 2 years after receiving their discharge.
Summarizing the Effects of Bankruptcy and Credit Scores
If your credit is perfect when you file a bankruptcy case, your credit score is going to take a hit.
But your credit score was unlikely to remain perfect. You are going to start missing payments and eventually the house of cards comes toppling down for those who continue to move credit card balances and “robbing Peter to pay Paul.”
The effect of bankruptcy on your credit score is something to look at, but it is rarely the key factor in determining whether or not to file bankruptcy. And, in many cases, the post-bankruptcy credit scores increase substantially.
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