The main issue that discourages most people from filing bankruptcy is the detrimental effect is has on their credit. It’s true that a bankruptcy can stay on your credit report for up to ten years and it seriously hurts your credit score. However, not filing for bankruptcy and allowing your debts to go to collections will also negatively impact your credit.
Depending on the kind of bankruptcy you file, Chapter 7 vs Chapter 13 bankruptcy, your credit score will decrease anywhere from 160 to 220 points. This is enough to take a good credit rating down to a fair or poor one. Since most lenders decide whether or not to extend you credit based on your credit score, a bankruptcy will make it much more difficult to qualify for an auto or home loan or credit cards.
The primary remedy for this is time, though there are additional measures you can take to positively enhance your credit report and score. Ultimately, if you manage your new debts well, your score will gradually increase, and in time you will be able to run your financial life successfully, even if the bankruptcy has not yet dropped off your report.
How Long Bankruptcy Stays on Your Credit Report
Chapter 13 Bankruptcy
The bankruptcy itself and the debts associated with the bankruptcy will be displayed differently on your credit report. A completed Chapter 13 bankruptcy will stay on your report for up to seven years, and discharged debts will also stay on the report up to seven years after they are discharged. Since many debts will remain active in a Chapter 13 bankruptcy until the end of a three to five year payment plan, the debts that were discharged could actually remain on the report longer than the bankruptcy itself.
Chapter 7 Bankruptcy
A completed Chapter 7 bankruptcy will stay on your credit report for up to ten years. Moreover, because all debts associated with a Chapter 7 bankruptcy are discharged within a few months of filing, they should drop off the report a few years before the bankruptcy itself. In general, discharged debt drops off a credit report after 7 years.
Basically, as the items on your report associated with the bankruptcy get older, they will have less and less of an effect on your credit score. This, by the way, may speak to the timeliness of filing for bankruptcy as opposed to letting collections accounts linger and then filing later.
Managing & Improving Your Credit Score After Bankruptcy
1. Check Your Credit Score
It’s important for everyone to check their credit report regularly, but it’s most essential for those who have recently filed bankruptcy. Maintain a list of the debts included in your bankruptcy and check their status a few months after your debts are discharged. If you filed Chapter 7, these debts should show a balance of $0 and no longer be listed as delinquent. If something isn’t being reported correctly, ask the credit report issuer to make the change and check with the original lender.
2. Reestablish Credit as Soon as Possible
Depending on whether you file Chapter 7 or Chapter 13, the bankruptcy will fall off your report in ten or seven years. However, if none of your accounts are more than ten years old, a bankruptcy may effectively put you in the same spot as an 18-year old with no credit history. Otherwise, it could create a virtual “hole” in your report, or a long time period in which it appears you had no credit at all.
Therefore, it’s important to apply for credit soon after the bankruptcy is discharged in order to re-establish a credit history and rebuild your score. In spite of a blemished credit report, there are a few ways to begin this process:
- Secured Credit Cards. A secured credit card requires you to give the credit card company a lump sum of money, which they keep as collateral. You’re then issued a credit card with a limit equal to the collateral you supplied. These cards often come with fees, so review the disclosures and application carefully to make sure you won’t spend more than the card is worth to you. These cards are much easier to get than other credit cards, since the lender takes on no risk in extending you credit.
- Store Credit Cards. Store credit cards often have lower requirements to qualify, though they tend to carry high interest rates and fees. As always, it pays to read the disclosures and application carefully.
- Car Loans. Car loans are generally easier to get than other types of loans, especially if you offer a significant down payment. If you need to buy a car and can save money for a down payment, begin shopping within six months of completing your bankruptcy.
3. Do Your Homework on Credit Card Offers
One thing that puzzles many people who file bankruptcy is that they receive multiple credit card offers right after their bankruptcy is completed. You’d think that a fresh bankruptcy would be a strong deterrent to lenders.
However, the banks know you won’t be able to file again for several years, so you are actually a better risk than you were before. Just make sure to read the fine print on any new debt you apply for, as many companies intentionally prey on people who recently filed bankruptcy by offering new lines of credit stuffed with fees, minimum payments, and extremely high interest rates.
Over time, reports from these debts will start to raise your credit score, provided you use credit cards and rewards wisely by paying by the due date and in full every month. Initially, the only lenders to extend you credit will probably be small banks and credit unions. But, within a few years, you may be able to get approved with the national banks, which is important because big names on a credit report can potentially sway future credit decisions like a home mortgage in your favor.
The passage of time alone will increase your score. Plus, as long as your report is filled with nothing but A+ grades, you should have a decent credit score within a few years, and even a good score by the time the bankruptcy drops off your report.
4. Keep Your Oldest Accounts Active
Since many people who declare bankruptcy previously had good credit, older items on their report can help their credit scores even if they later declare bankruptcy. The “length of credit history” factor, which makes up about 15% of your score, is generally not affected by declaring bankruptcy. In other words, keep these older accounts active and in tact whenever possible to maintain the length of your credit history.
5. Don’t Apply for Numerous Accounts
About 10% of your credit score is determined by whether you have applied for new accounts recently. While you will need to apply for new credit to begin rebuilding your score, keep the accounts to a minimum and spread out your applications over time.
This is especially true if you apply for a large loan like a mortgage or car loan. Credit rating companies consider it a bad sign if you apply for a lot of new credit all at once. Another reason to limit the number of credit accounts you apply for is so you can manage the ones you have effectively and responsibly.
While having a bankruptcy on your credit report will lower your score significantly at first, over time it will become less important, especially if you start establishing new credit and good financial habits as soon as possible. In fact, people who are responsible with their debt and actively monitor their credit report will be able to apply and qualify for most debt within two to four years after the bankruptcy is completed.
In other words, they can apply for mortgages, car loans, and new credit cards in the same way as anyone else with a similar credit score, regardless of the bankruptcy. Remember, bankruptcy will eventually drop off your report as will all of your old debts. If you have a very bad credit score due to multiple missed payments, accounts in collections, or reduced limits, a bankruptcy filing could actually be less detrimental to your credit than remaining in your current situation.
Have you ever filed for bankruptcy? How much of an impact did it have on your credit score, and what were some of the actions you took to get back on track?