Bankruptcy

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Having the option to declare bankruptcy can be a handy safety net, to be used as a last resort when debts get out of control. However, there are several aspects of bankruptcy that many people don't understand very well.

While we hope you never have to file for bankruptcy protection, or even need to consider it, here are three things you may be surprised to learn about bankruptcy and its effects.

Sean Williams: Perhaps one of the greatest unknowns about bankruptcy, and arguably its greatest irony, is that some people are just too poor to declare bankruptcy.

Think about this for a moment: The reason a person files for Chapter 7 or Chapter 13 bankruptcy protection is that they can't meet their obligations to their debtors. In layman's terms, they don't have enough money to pay their bills. Declaring bankruptcy and getting a clean slate is sometimes viewed as the best answer. However, the process of filing for bankruptcy protection can be so expensive that some people simply can't afford it.

According to the National Bureau of Economic Research in 2012, the most common form of bankruptcy, Chapter 7, costs about $1,500. This includes around $300 for filing paperwork with federal courts, around $85 in fees for pre-bankruptcy credit counseling and a pre-discharge education course, and the remaining $1,100 for lawyer fees for handling your bankruptcy. Chapter 13 bankruptcy costs -- the type of bankruptcy where a payment plan is formulated to repay existing debt -- can often be even higher, since proceedings and paperwork can go on for years.

The good news is judges will sometimes waive the federal court fees if you make 150% or less of the federal poverty level ($17,655 in 2015 dollars) and can demonstrate that paying that fee would put an undue financial burden on you, but this does nothing to lessen the fees a filer will have to pay to his or her attorneys.

Long story short, before you declare bankruptcy, make sure you have enough money to be able to afford it!

Matt Frankel: Most people who file for bankruptcy protection know that it will affect their credit score, but many are surprised to learn the magnitude of the impact and how long it can last.

Chapter 13 bankruptcy can remain on your credit report for seven years after completion, and Chapter 11 or Chapter 7 bankruptcy can stick around for up to 10 years. Plus, the individual accounts included in the bankruptcy have their own impact and remain on your credit for seven years.

A bankruptcy can easily cause your score to plunge by several hundred points, making it nearly impossible to obtain credit. You'll have to wait one to four years before you can get a home mortgage, and once you're approved, plan on paying a high interest rate. There are credit cards designed for people with bad credit, but these come with extremely high interest rates and annual fees and rarely have rewards programs or sign-up bonuses as many other credit cards do.

Auto loans can be obtained after bankruptcy, but you'll pay for it. According to MyFICO.com, consumers with a FICO score between 500 and 589 can expect an interest rate of 16.2% on a 48-month used-car loan, a sharp contrast to the 3.6% rate consumers with scores above 720 can expect. This is the difference between paying $1,130 in interest over the life of a $15,000 car loan and paying $5,471, nearly five times that amount.

There are ways to accelerate credit repair post-bankruptcy, such as by obtaining a secured credit card and by paying your bills as agreed, but even in a best-case scenario, you'll feel the sting of a bankruptcy for years to come.

Dan Caplinger: Many people mistakenly assume that any debt they have outstanding automatically goes away in a bankruptcy proceeding. However, there are certain types of debts that are considered to be non-dischargeable, meaning that they survive a bankruptcy filing and that you still have to pay them off even after your bankruptcy case is closed.

For instance, debts for spousal or child support or alimony are generally non-dischargeable, as are attorney fees in child custody and support cases. If you owe money to a former spouse or to a child that arose from a divorce or separation, then the bankruptcy proceeding often won't discharge those debts. Amounts owed to government agencies for various fines and penalties usually can't be discharged.

Most notably for many younger debtors, student loans typically are non-dischargeable, with only limited exceptions. In addition, if you fail to list any debt on the schedule of outstanding obligations in your bankruptcy filing papers, then the bankruptcy won't discharge the debt unless the creditor had notice of the filing.

Knowing which debts are non-dischargeable can help you avoid mistaken expectations about the impact of a bankruptcy filing. In some cases, it'll make more sense not to file at all and instead seek other solutions for your outstanding debt.

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