Page 1


Credit Score

Erin B. Shank Bankruptcy Attorney

For most debtors, bankruptcy is a course of last resort. Along with the social stigma that goes along with declaring bankruptcy, debtors are often worried about how filing bankruptcy will impact their credit score for years to come after the bankruptcy is finished. Unfortunately, there are no black and white rules regarding credit in the aftermath of bankruptcy; however, there are some general guidelines that might help you decide if bankruptcy is the right option for you.

BANKRUPTCY CHAPTERS The impact a bankruptcy will have on your credit score will depend, to some extent, on the chapter under which you file your bankruptcy. The United States Bankruptcy Code provides several options for individual debtors including chapters 7, 11, 12, and 13. A chapter 11 bankruptcy, though available to an individual, is typically used by a small business. Chapter 12 is available to individuals who are considered a family fisherman or farmer and therefore is only used in limited circumstances. A chapter 13 bankruptcy, commonly known as a wage-earner’s bankruptcy, allows a debtor who has valuable non-exempt assets and/or significant income to repay his or her debts over an extended period of time. Finally, a chapter 7 (“liquidation”) bankruptcy is for individuals with relatively little income and predominantly exempt assets. While a chapter 7 bankruptcy is usually completed within about four to five months, all other chapters take a few years to conclude. Also of import is the fact that a chapter 7, 11 or 12


bankruptcy will remain on your credit report for ten years while a chapter 13 drops off after seven years from the date of filing.

IMMEDIATE IMPACT OF FILING BANKRUPTCY ON YOUR CREDIT SCORE The immediate impact to your credit score upon filing a petition for bankruptcy will depend on your credit score prior to filing. Some debtors manage to retain a fairly high credit score despite serious financial struggles while others watch their credit score plummet for months, even years, prior to filing. Therefore, if your credit score suffered prior to filing, it may not move considerably after filing. If, for instance, your credit score was around 600 or below when you filed, it may only drop 50 points or so when you actually file. On the other hand, if you managed to hold on to a credit score over 700 before making the decision to file bankruptcy, your credit score will likely plummet by 100-200 points or more when you initially file your petition.

SHORT TERM IMPACT – RIGHT AFTER DISCHARGE An interesting aspect of bankruptcy as it relates to your credit score often shows up shortly after your bankruptcy is discharged. Your credit score is determined by a complicated formula that looks at several important factors, one of which is your debt to income ratio. Your debt to income ratio is determined by dividing the total amount of monthly debt payments you are required to make by your total monthly income. For example, if your mortgage payment is $800 per month and your car payment is $200 per month and the combined payments for all credit


card debts equals $500 per month then your total monthly payments equal $1,500. Then let’s assume that your total income each month is $4,000. Your debt to income ratio is 0.375 or 37.5 percent ($1,500/$4,000 = 0.375). If you discharge all of the credit card debt through bankruptcy your debt to income ratio becomes 0.25 or 25 percent ($1,000/$4,000). Your debt to income ratio just became much better. This factor alone can cause your credit rating to go up not long after your bankruptcy is discharged. Of course this factor alone will not result in your credit score soaring into the 700s, but it often helps more than people realize. Along with the fact that your debt to income ratio changes for the better upon discharge, potential lenders also realize that you cannot file for bankruptcy again for at least seven years. These two factors can actually make you look like a fairly decent credit risk to many lenders.

LONG-TERM IMPACT “You may find that obtaining a The long-term impact of a bankruptcy on your credit credit card or securing financing for score should not be ignored the purchase of a vehicle can be by a debtor. Although your done as early as six months to a debts will show as discharged, they will year after filing bankruptcy.” indicate that they were discharged through bankruptcy. The long-term impact this has on your credit score depends largely on what you do to try and increase your score after the bankruptcy and on the importance that an individual lender places on the fact that you filed for bankruptcy in the past. While the fact that you filed bankruptcy will remain on your credit report for seven to ten years, it does not have to have a negative impact on your actual credit score for that long. Because you cannot file for bankruptcy again for at least seven years, some lenders actually consider you to be a fairly safe credit risk,


assuming you have an established employment record and sufficient income. As a result, you may find that obtaining a credit card or securing financing for the purchase of a vehicle can be done as early as six months to a year after filing bankruptcy. Qualifying for a mortgage, on the other hand, may be more difficult after bankruptcy. Most mortgage lenders depend heavily on your credit score when making decisions, meaning that you may need to wait for two to three years after a bankruptcy before applying for a mortgage loan. Although there are lenders that will approve you for a loan sooner, an FHA lender will typically want you to be at least two years post-bankruptcy if you filed a chapter 7 bankruptcy. You may be able to qualify for a mortgage earlier if you filed a chapter 13 bankruptcy.

STEPS TO IMPROVE YOUR SCORE AFTER BANKRUPTCY Once the decision has been made to seek protection through bankruptcy, a debtor should start thinking about repairing his or her credit score postbankruptcy. Many debtors are leery of credit after they have been through bankruptcy. While this is understandable, repairing your credit score often involves re-establishing a positive credit history. Although each debtor’s situation is unique, the following are common tips used to improve your credit score after a bankruptcy:  Bills – the single most important thing you can do is to pay all your bills on time every month after a bankruptcy. A single late payment can destroy your re-building efforts.  Credit cards – do not go out and apply for every card you can; however, you should apply for at least one credit card that you then use sparingly and pay off each month. You may need to apply for a secured credit card to get started.  Loans – a vehicle loan or mortgage loan goes a long way toward improving your credit score. When you feel you are ready, and financially stable enough, try and take out a loan.  Accounts – some lines of credit will be closed during your bankruptcy but closing all of them is not a good idea. Having no


information on your credit report can be as bad as having negative information.  Monitor – take the time to monitor your credit score on a regular basis. For a post-bankruptcy debtor, even a small inaccuracy or error can be devastating to your efforts to improve your score. In addition, you need to ensure that all of the debts that were discharged during the bankruptcy reflect that on your credit report. If you find an active debt that should show as discharged, contact the credit bureau and/or your bankruptcy attorney immediately. If you are considering filing for protection under the U.S. Bankruptcy Code, chances are that your credit score is already less than stellar or is headed that direction if you do not find a solution to your financial troubles. Keep this in mind when you consider the impact that bankruptcy will have on your credit score. Moreover, although the bankruptcy will likely decrease your credit score when you file the petition, you can begin to re-build your score the very next day. With careful financial planning you may find that your score improves dramatically in a relatively short period of time. MSN Money, 7 Tips for after Bankruptcy Oprah, How to Get a Mortgage Post Bankruptcy Bankrate, Bankruptcy Timeline: Re-Building Credit


About the Author

About the Author Erin B. Shank With extensive training and years of experience helping families throughout Central Texas, Erin B. Shank is here to help you conquer your financial obstacles. Whether you need guidance and advice regarding bankruptcy, debt consolidation, tax debt or other financial problems, our friendly and qualified team can help you find solutions that will enable you to manage or eliminate your debt.

Erin B Shank, PC 1902 Austin Avenue Waco, TX 76701 (254) 296-1161 1711 East Central Texas Expressway Suite 107 Killeen, TX 76541 (254) 690-4110


Filing bankruptcy and your credit score  

For most debtors, bankruptcy is a course of last resort. Along with the social stigma that goes along with declaring bankruptcy, debtors are...