While filing for bankruptcy can discharge your debt burden or provide you with a more manageable repayment plan allowing you to start fresh, it can have serious negative effects on your credit score. The better your credit, the worse the damage could be, according to myFICO:
“Someone that had spotless credit and a very high FICO score could expect a huge drop in their score. On the other hand, someone with many negative items already listed on their credit report might only see a modest drop in their score.”
Understandably, some lenders are hesitant to approve borrowers who have filed for bankruptcy in the past. And it can take 7 to 10 years for that bad mark to disappear from your credit history.
But there is life after bankruptcy, even if your credit score has suffered.
In this post, we’ll explain a few options you have if you filed for bankruptcy but still want to get approved for a new credit card.
Set realistic expectations
When you’re ready to take on new credit after a bankruptcy, your credit score will be more fragile than ever. It’s not exactly the best time to apply for a bunch of different cards and hit your credit file with a bunch of hard inquiries.
The good news is that you can do your homework ahead of time and avoid applying for cards that are bound to deny you. All credit card issuers have their own policies and protocol they follow when it comes to considering applicants who have filed for bankruptcy in the past.
Some banks and credit card issuers clearly state on their website that they will not approve applicants who filed for bankruptcy and have not yet received a formal discharge, meaning it is still unresolved or not finalized.
In other cases, you can tell you probably won’t qualify if the credit card details state that you need excellent credit to qualify. A bankruptcy will bring your credit score down or you may have even had low credit before you filed if you were missing payments and struggling to pay your debt off for some time beforehand.
Therefore, it’s clear that you won’t qualify for credit cards that offer low interest rates and competitive rewards.
Make sure your delinquent accounts are scrubbed from your credit report
One of the first things you want to do before you consider applying for a credit card is to check your credit report with all three credit bureaus. You should do this to make sure your delinquent accounts are discharged from the bankruptcy as well as to clear up any inaccuracies.
If you still have delinquent accounts open, there’s a slim chance you’ll qualify for a new credit card since your score will just continue to go down. Once your bankruptcy is finalized, you’ll have a chance to start rebuilding your credit.
If you’ve recently filed for bankruptcy and you’re not even close to the 7- or 10-year mark, you may want to consider trying a secured credit card instead of an unsecured credit card. A secured credit card works just like a traditional unsecured credit card only you need to put down a cash collateral deposit that becomes your credit limit.
Secured credit cards are a great option if you need to rebuild bad credit, and if you use your card wisely, you can establish some positive credit history post-bankruptcy, which will help you qualify for unsecured cards in the future.
With secured credit cards and other credit cards for those with bad credit, you’ll want to watch out for the fees, which are likely to be higher.
Below are some options to consider for secured credit cards post-bankruptcy.
Recommended Secured Cards
Capital One Secured MasterCard
This card is for people with limited or bad credit. It has no annual fee and a variable interest rate of 24.99%. There is a required security deposit of $49, $99, or $200 depending on your creditworthiness, and you’ll receive an initial credit limit of $200.
After five months of making your monthly payments on time, you’ll have access to a higher credit line without having to put up another deposit. Card users will also be able to have unlimited access to their credit score and tools to help monitor their credit with Capital One’s free CreditWise service.
First Progress Platinum Secured MasterCard
The First Progress Platinum secured card is for people with bad or no credit. This card has an annual fee of $44 and a variable 11.99% APR. You must deposit at least $200, but you can deposit at much as $2,000 and your cash deposit will determine your starting credit limit.
The minimum interest charge for this card is $1.50, and there’s a late payment fee of up to $38 if you fail to make at least your minimum monthly payment on time.
Discover it® Secured Card – No Annual Fee
The Discover it® Secured Card has no annual fee, has a variable 23.99% APR, and requires only a minimum security deposit of $200. You can also still qualify for this card if you’ve filed for Chapter 7 bankruptcy in the past.
Discover also mentions on their website that this card is geared toward people who are new to credit or looking to rebuild their credit. They determine eligibility based on the information you provide on the application, your credit report, and other information they may have about your creditworthiness.
If you don’t happen to be approved, they provide you with the score they obtained, which credit reporting agency it was obtained from, and the reasons why they couldn’t approve your application.
This card allows you to earn 2% at restaurants and gas stations (up to $1,000 of spending each quarter) and unlimited 1% on everything else. Discover also matches the cash back you earn during the first year only. You can redeem rewards at any time.
In addition, cardholders receive their free FICO score and can qualify for a higher credit limit after seven months. Most secured credit cards don’t offer rewards, but this one does.
While at first it may be more difficult to get a new credit card after filing for bankruptcy, it’s not impossible.
Before anything, you need to make sure you’re ready to use a new credit card properly. Make sure your finances are in order and you have a handle on any existing debt you owe especially if you have a payment plan set up as a result of filing for Chapter 13 bankruptcy.
Also, make sure you can control your spending and can afford to make credit card payments each month. Then, check your full report and start by comparing options for secured credit cards that will allow you to rebuild your credit.
Watch out for fees like monthly maintenance fees, annual fees, and high interest rates to make sure you’re not losing any money as well.
My journey to bankruptcy began in 2003 after I was in a major car accident that left me unable to work for several months. Injured and unemployed I was forced to move back home with my mother, younger brother and three foster brothers. As I slowly began to regain my financial independence our family was dealt another blow.
In December of 2004, after what should have been a routine knee replacement surgery, my mother contracted a MERSA staff infection and became gravely ill. Needing around the clock care and help with my four younger brothers, I became a full-time caretaker while my mother fought for her life. It took her over a year to win back hear health. Unfortunately Murphy’s Law was not done with its assault on our family just yet.
In the spring of 2006 I had just gone back to nursing school when I had an emergency appendectomy, which left me with an additional $15,000 of debt. Having no insurance I was responsible for the entire amount due. This surgery was the tipping point in which my debt became too much for me to handle and I had to begin looking for a different solution.
I spent the next several months educating myself on how to handle harassing debt collectors, ways to work with your creditors and how to rebuild your credit score. After struggling to send my creditors every spare penny I had I finally came to the conclusion that filing for Chapter 7 bankruptcy was the best solution for my situation.
Walking into bankruptcy court was one of the most nerve-racking things I had ever gone through, but I am so glad that I did.
If you find yourself at a crossroads contemplating bankruptcy there are a few important things you need to take into consideration in regards to your own situation.
Evaluate Your Financial Habits
Before you file for bankruptcy you need to take a long hard look at your finances, your spending habits, and any other situations your currently facing that is causing you financial hardship. Until you know how you wound up in the situation you can’t have a clear plan on how to fix it. This is also the time to decide if going bankrupt is really the right thing for you to do.
Once you have decided to move forward you need to spend some time gathering all of your information. This will include: all of your bank accounts, retirement accounts, your personal property and other assets. Having this information will help you figure out which type of bankruptcy for which you qualify.
Know Your Options
It is very important to know your bankruptcy option and what each will mean for you.
A Chapter 13 bankruptcy does not wipe out your debt. Instead the court will calculate your disposable income and use that number to make a payment plan for you. Over the course of three to five years you will be required to make payments on your debt until it is paid in full or to the agreed upon amount.
A Chapter 7 bankruptcy wipes out your debt completely. There are however a few specific debts that cannot or rarely can be eliminated with a Chapter 7 including back taxes and student loans. It is also important to note that you must qualify for a Chapter 7 bankruptcy. You must prove that you are unable to pay off your debt either because your income level is below the state median or your living expenses are so high that you simply cannot repay your debt.
There are many websites out there suggesting that you can file for bankruptcy on your own, and that there is no reason to pay a lawyer. What those sites fail to mention is if you make a mistake on your paperwork you may have to start the process over. You may even find that some of your debt was not included in your bankruptcy leaving you responsible for the payments regardless of what type of bankruptcy you filed.
While hiring a lawyer does increase the expense of filing for bankruptcy it is his or her job to make sure that everything is in order and goes as smoothly as possible. Speaking from personal experience having a lawyer by your side during your proceeding can also help you feel more confident when facing the judge.
Have an After Bankruptcy Game Plan
There is a life after bankruptcy, while it may not feel like it in the moment things will get better. You however need to have a plan for how you will handle your finances from this point on. If you do not make a conscious decision to change the way you have been handing your money you will find yourself right back in the financial mess you have just escaped.
Going bankrupt can seem like the end of your financial life, and you may be wondering how you will ever recover from it. The good news is that you can. If you learn from your mistakes and make the decision to move forward with good money habits it is possible. I went from being financially devastated to a credit score of 740 in just a few short years. It took hard work and dedication to my financial health but I did it and so can you!
Student loans are the one type of debt you can never discharge through bankruptcy. Or are they?
For years that’s been the case, largely because of a court ruling from 1987 that set an almost impossible standard for student loan borrowers to meet. But the student loan landscape has changed dramatically since then, and in recent years there have been some signs that borrowers in tough spots may in fact be able to find some relief.
If you’re struggling under the weight of your student loans, read on. In this post you will learn:
What the current (and strict) criteria are for having student loans discharged through bankruptcy.
Commonalities from recent cases where individuals were successful at having their student loans discharged.
A step-by-step process for getting on track with your student loans and improving your chances at discharge.
The Current Standard
Individuals hoping to have their student loans discharged through bankruptcy typically have to show “undue hardship” by passing the three-part Brunner test. This test was born from a court ruling in 1987 and it requires the individual to:
Show that he or she has made a good faith effort to repay the loans.
Show that he or she cannot maintain a reasonable minimum standard of living while paying back the loans.
Show that this condition is expected to last for most of the repayment period.
It’s that third criteria in particular that has made student loans so difficult to discharge. After all, how can you convincingly demonstrate that your prospects aren’t likely to improve, especially when student loan repayment periods can extend for as many as 30 years?
It’s proven challenging, but a few recent rulings can give borrowers hope and may even provide a road map for at least opening up the possibility of discharging your student loans through bankruptcy.
Two Commonalities Between Successful Student Loan Discharges
Time: In two cases of successful discharges from 2013, the student loans were 10 and 15 years old. Clearly these were not recent grads at the beginning of their repayment journey.
Significant current hardship: One woman had been unemployed for almost a decade and was caring for her elderly mother. Another woman was 64, on Social Security, working multiple jobs, and cited mental and physical ailments.
In other words, they seemed to be struggling with some of the same factors you might consider when filing bankruptcy for any reason. Which means that if you’re struggling with your student loans and your financial situation in general, it may in fact be possible to have them discharged through bankruptcy as a last resort.
With that in mind, here are some steps you could take to put you in the best situation to either repay your student loans or to successfully have them discharged so you can hit the reset button.
Step 1: Get Organized
Get a complete list of all your debt, both student loan and otherwise, in one place so that you know exactly what you’re dealing with. The most important information you need to know for each type of loan is:
The amount you owe
The interest rate
The minimum payment
For student loans specifically, you will also want to know the type of loan and when it was issued, as that information may impact your repayment options.
For you, this will keep your credit history in good shape and keep your debt from spiraling out of control.
For the courts, this is one step towards showing a good faith effort at repayment.
Step 3: Look into Income-Driven Repayment Plans
Just like the previous step, this will both help you immediately and help if you eventually move to bankruptcy.
In the short-term, income-driven repayment plans may help to lessen the burden of your student loans by decreasing your monthly payment. They can even provide a path to eventual discharge without bankruptcy.
And if you do end up in traditional bankruptcy, this will serve as more evidence that you have made reasonable efforts to repay.
Step 4: Track Your Expenses
Tools like mint.com and You Need a Budget will help you stay on top of where your money is going now so that you can make more informed decisions about how you want to use it going forward.
Many of my clients, when they sign up for a tool like this for the first time, are shocked to find out how much they’re spending in certain categories and can quickly find some big ways to cut down on their monthly expenses. If you can find one or two of those big wins, you may find that your loans become a little easier to handle.
Step 5: Create a Repayment Plan
Creating a repayment plan for your student loans will not only give you a better shot at repaying them in full, but will give you another thing to point to if the courts want to see that you’ve made a strong effort to repay.
There may be some relatively easy ways to free up cash that could either help with your regular living expenses or help you pay down your loans even faster.
Things like switching to a lower cost cell phone provider, cutting cable, or even bringing lunch to work are relatively small changes that could reduce a significant amount of financial burden.
Step 7: Find Ways to Earn More Money
It doesn’t have to be all about cutting costs. Could you negotiate a raise at your job? Could you start a side hustle? Even a small amount of extra income could give you a lot more breathing room.
Step 8: Consider Bankruptcy
If you’ve been doing all of the above for a number of years and your student loan debt still feels like too much to overcome, it may be worth considering bankruptcy.
Keep in mind that there are some real, negative consequences to bankruptcy, so it’s not a cure-all. And it’s likely still a long shot that you could get your student loans discharged.
But for many it can be a huge relief to hit the reset button on their financial situation, and as recent court cases have shown it is possible to have your student loans discharged. If you’ve been diligently taking the steps above, you’ll have a strong history of attempting to pay them back that the courts may look favorably upon and it may be worth giving it a shot.
Whether you’re drowning in loans, unemployed, racking up medical bills, or guilty of too much online shopping, one thing’s for certain — we all hate debt. And when debt becomes impossible to pay back, bankruptcy may seem like the only way to escape.
While filing for bankruptcy may be the right solution, it can negatively affect your finances for years to come. But, fortunately, life moves on. And despite this financial setback, you may want access to credit in the future. Without it, large purchases like a home can be difficult. It’s not impossible, but applying for a mortgage post-bankruptcy means working through a particular set of challenges. Prepare yourself by knowing these important guidelines.
Know the Difference: Chapter 7, 11, & 13 Bankruptcies
We constantly hear about bankruptcies in the media, but what does filing for one actually mean? Bankruptcy is a legal procedure that can help you wipe out or repay debt under the protection of the United States bankruptcy court.
Chapter 7 and Chapter 13 are the main types of consumer bankruptcies. But what are the key differences?
Chapter 7 is typically the preferred type of bankruptcy because involves liquidation and eliminates all your eligible debt. This means your nonexempt property will be sold and the proceeds will be distributed to your creditors. Exempt property varies from state-to-state, but part of your property may be subject to liens or mortgages, promising it to other creditors. It’s important to know Chapter 7 bankruptcies may, but not frequently, result in a loss of your property. You may lose your home outside of bankruptcy to foreclosure if you fall behind on your mortgage payments.
It is much harder to be eligible for Chapter 7 bankruptcy. If your income is above the median in your state and you prove you have sufficient cash flow to service some of the debt, then you’ll likely be forced to file Chapter 13.
Chapter 13 bankruptcy allows you to keep property, adjust debt, and to pay it back over time. This is a long process as the repayment period is typically three to five years. If you’re behind on mortgage payments, it may be easier to keep your home in Chapter 13 because you may be able to make up payments in your repayment plan.
Unfortunately, bankruptcies may stay on your credit report for up to 10 years. Because of this, many people incorrectly assume bankruptcies ruin your chance at homeownership. This definitely isn’t the case, but it does mean the path to purchasing a home will take more time.
The Waiting Period After Bankruptcy
Even if bankruptcy stays on your credit report for 10 years, you’re not expected to wait that long before trying to buy a home. However, Fannie Mae knows a bankruptcy increases your likelihood of a mortgage default. Despite this red flag, Fannie Mae encourages lenders to investigate the cause of these issues, make sure sufficient time has passed, and verify an acceptable credit history has been re-established. So, how long do you have to wait? The waiting periods begin upon the completion, discharge, or dismissal date of your bankruptcy.
Both Chapter 7 and Chapter 11 require a four-year waiting period. However, if you have documented extenuating circumstances, it’s possible it may be reduced to two years.
Chapter 13 bankruptcy requires either a two-year or four-year waiting period, depending on what step of the procedure you’re on (discharge or dismissal). If you’ve had more than one bankruptcy within seven years, a five-year waiting period is required. But remember, this time period kicks in after the Chapter 13 bankruptcy is complete, so that’s two to four years on top of the original three to five years working your repayment plan. It could be up to nine years total before you’re eligible.
If you’re anxious to start the home buying process, these waiting periods may feel inconvenient. But they offer a fantastic opportunity to clean up your credit and reduce your debt-to-income ratio before re-applying for a mortgage.
The Importance of Your Credit Score and Debt-To-Income Ratio
As soon as your bankruptcy case has been discharged and closed, it’s time to take a detailed look at your finances. Chances are, you have a lot of room for improvement. Luckily, Fannie Mae’s mandatory waiting period gives you the chance to prepare.
Here’s what you need to do:
Improve your credit score. First, get a copy of your credit report and a view of your credit score to see what work needs to be done. AnnualCreditReport.com offers a free report every year, but this does not come with a credit score. You can find more information about how to access your score here. Do you know what steps to take next? 35% of your score is based on payment history. That means you need to pay every single bill on time. If you no longer have access to any lines of credit, then consider getting a secured credit card in order to rehabilitate your credit. Start doing this right away and you’ll see improvements. Going forward, you need to monitor your credit report regularly. Remember, your credit score will also affect what interest rate you’ll be able to secure, and consequently, which mortgages you’ll be able to afford.
Pay down outstanding debts. After the dust settles from your bankruptcy, do you still owe any money? Try to repay these debts as quickly as possible. Debt-to-income ratio is the single most important factor in getting approved for a mortgage. Looking for your best chance at approval? Aim for a debt-to-income ratio of 40% or less. Also, make sure you don’t take on any additional loans during this period of time.
Stick with your Chapter 13 repayment plan. Did you file for Chapter 13 bankruptcy? If so, don’t miss any of your court-ordered repayment requirements. Diligently follow exactly what you’ve agreed to.
Save as much as you can. Do you have an emergency fund? A health stash of cash reserves can help keep your debt repayment plan on track as unexpected expenses pop up. Don’t forget, you’re also going to need a chunk of change for your mortgage down payment.
Bankruptcy doesn’t have to create a barrier to homeownership. But bouncing back may take time. Whether you’ve filed for Chapter 7, 11, or 13, Fannie Mae’s mandatory waiting periods offer an opportunity to get your finances back on track. Use this time wisely by committing to improve your credit score and reduce your debt-to-income ratio. Save as much as you can. And when the time comes to reapply for a mortgage, be upfront with your lender. Be honest about your setbacks, show how much progress you’ve made, and explain how you’ve learned from past mistakes. Remember, bankruptcy was never meant to be a life-long penance; it’s a chance for you to start over.
If you’re drowning in debt and having trouble keeping up with your payments while still handling your living expenses, you may have at least begun to consider filing for bankruptcy.
Bankruptcy certainly has its benefits, potentially allowing you to wipe the slate clean and start anew.
But there are a lot of things to consider before making a decision, from the negative consequences of filing to whether bankruptcy would even provide relief for your specific situation.
This is a big decision that requires a significant amount of due diligence before moving forward, and in this post we’ll go over some of the key points to help you get started.
Are You Eligible?
There are two types of bankruptcy for individuals: Chapter 7 and Chapter 13.
There are some significant differences between the two programs, but here’s a high-level summary:
Chapter 7 allows you to completely discharge your debts, with some exceptions (such as student loans, certain tax obligations, and child support). But you may be obligated to sell some of your property to settle some of your debt obligation.
Chapter 13 allows you to create a payment plan to repay some or all of your debts over a 3-5 year period. So your debts are not discharged, but you will also not be obligated to sell any property in order to make your payments.
Either one could be more or less beneficial depending on the specifics of your situation. But the very first question is whether you qualify for either one, and each has its own set of criteria.
Chapter 7 bankruptcy has what’s called the “means test”, which is meant to ensure that only people who truly can’t afford their debt payments are allowed to file. There are two different wants to pass it, and therefore qualify for Chapter 7 bankruptcy:
If your monthly income is less than the median monthly income in your state for your family size, you pass. You can find current median income numbers by family size here.
If you don’t pass #1, you’ll have to go through a complex calculation to see whether your disposable income after subtracting out certain expenses is enough to satisfy your debt obligations. At this stage it would probably be best to talk to a professional who could help you navigate the process.
Eligibility for Chapter 13 bankruptcy is a little more straightforward. Here’s how it works:
As opposed to Chapter 7, you need to prove that your disposable income is high enough to afford a reasonable repayment plan.
Your secured debt (mortgage, auto loan) can’t exceed $1,149,525, and your unsecured debt (credit cards, medical bills, etc.) can’t exceed $383,175.
You must have filed both federal and state income taxes each of the last four years.
There are some other requirements for each, but those are the major ones. Assuming you qualify for at least one of them, there are a few other things to consider.
What Kinds of Assets and Liabilities Do You Have?
Depending on the specifics of your financial situation, one type of bankruptcy may be preferable to the other. Or it may be that neither would actually be particularly helpful.
As an example, neither type of bankruptcy would likely help you all that much if your primary debts are student loans. They wouldn’t be discharged in Chapter 7 bankruptcy. And while your required payments might be reduced over the 3-5 year repayment period in Chapter 13 bankruptcy, once that was over you would have to continue paying them back as usual.
The type of assets you own and their value also matters, particularly if you’re going through Chapter 7 bankruptcy. During that process your bankruptcy trustee is allowed to sell your property in order to settle your debts, but certain property is protected.
For example, your house and car are protected up to certain limits. Employer retirement accounts like 401(k)s and 403(b)s are fully protected, while IRAs are protected up to about $1 million. But other accounts, such as checking, savings, and regular investment accounts may not have the same protections.
The rules here vary by state, and having a strong understanding of which assets you might be able to keep and which you might end up losing will help you make your decision.
What Are Your Alternatives?
Bankruptcy can have the big advantage of erasing your debts and allowing you to start anew. But there are also some serious consequences, such as a hit to your credit score and a mark on your credit report for up to 10 years. So it makes sense to evaluate your other options before making a decision.
One option may be to call up your lenders and see if you negotiate a lower interest rate, a reasonable payment plan, or a settlement for a smaller amount.
You could also work on making some changes to your spending habits, cutting out certain expenses and possibly selling certain possessions to make room for your debt payments.
If you have student loans, you should look into income-driven repayment plans as a way to decrease your monthly obligation and potentially have some of your debt forgiven down the line.
You could also look into getting some 1-on-1 help from a credit counseling company. Just make sure to stick with reputable companies like The National Foundation for Credit Counseling and to avoid the late-night infomercials promising to wipe your debt away.
Make the Best Decision for You
Filing for bankruptcy is a big decision, and in the end you’re the only one who will know what’s right for you.
Do your research, evaluate all of your options, and then make the decision that most helps you reach your personal goals.
Student loans have been a hot topic in recent news and for good reason. The level of student loan debt in the United States has grown substantially over the past several decades. As of 2014, the balance of student loan debt reached $1.2 trillion. Students burdened with debt have one option when it comes to repayment: pay the debt. However, in extreme circumstances, it may be possible to completely discharge student loan debt in bankruptcy.
How to Discharge Student Loans in Bankruptcy
The U.S. Department of Education website provides four cases in which federal student loans may be discharged. Those include:
Closed school discharge
Total and permanent disability discharge
There are a few more options for partial discharge with qualifications. The website lists bankruptcy as an option in rare cases.
“If you file Chapter 7 or Chapter 13 bankruptcy, you may have your loan discharged in bankruptcy only if the bankruptcy court finds that repayment would impose undue hardship on you and your dependents. This must be decided in an adversary proceeding in bankruptcy court. Your creditors may be present to challenge the request.”
The U.S. bankruptcy court will use the three-part Brunner test to determine if the student loans are eligible for discharge in bankruptcy. To show hardship you must show that:
If you were forced to repay the loan, you would not be able to maintain a minimal standard of living.
There is evidence that this hardship will continue for a significant portion of the loan repayment period.
You made good-faith efforts to repay the loan before filing bankruptcy (usually this means you have been in repayment for a minimum of five years).
If you are unable to satisfy any of the three requirements, the loan will not be discharged. However in a study published in the American Bankruptcy Law Journal by Jason Iuliano, 39% of those who applied were granted at least some discharge.
For example, if you are 30 and your student loan payments make up a significant portion of your total income, and you can prove that this hardship will continue for many years you might be able to have your student loans included in your bankruptcy.
But if you just started making payments and have not attempted to use available programs such as income-based repayment, then you may have a harder time discharging your student loans.
If you feel that bankruptcy is for you, consult a lawyer and consider including your student loans.
Choosing to eliminate your student loans using bankruptcy is a difficult path. Moreover, you will mark your credit report for 7 or 10 years with a bankruptcy filing. This could prevent you from purchasing a home, opening new lines of credit, and benefiting from the best rates to borrow money. It could also prevent you from getting a job with credit pre-screening.
Determine if you are eligible for deferment or forbearance. A deferment is a period during which repayment of the principal and interest of your loan is temporarily delayed. Depending on the type of loan you have, the federal government may pay the interest on your loan during this period.
If you can’t make your scheduled student loan payments, but don’t qualify for deferment, a forbearance may allow you to stop making payments or reduce your monthly payment for up to 12 months.
You can also have your student loans discharged if you take a certain career path and your loans are: Direct, FFEL Program, or Federal Perkins loans. Private loans are often not eligible for forgiveness programs. As an eligible public service employee you can have 100% of your loan balance forgiven after 120 consecutive payments; this assumes that you maintain your status as an eligible public service employee while making those payments. If combined with one of the reduced payment plan options that could mean a substantial reduction in total repayment balance.
The word “bankruptcy” usually gets an emotional response from anyone who hears it. Lawyers, advertising it on television, sell bankruptcy like it is a flat-screen television. Radio talk show hosts often call it immoral, telling you to live on beans and toast for 10 years before you break your vow of repayment and walk away from debt.
At MagnifyMoney, we think the truth lies somewhere in between. For certain situations, bankruptcy is the single best solution. For others, it can’t help them. And for some, who can actually afford to repay their debt, it does raise serious ethical questions.
And this isn’t just our opinion. The Fed just recently released a report, showing that bankruptcy can be an excellent solution for some people. And it also showed that the 2005 reform, which made it harder to file bankruptcy, has harmed individuals who stopped filing for bankruptcy. Not filing has condemned them to a life of chronic debt, with daily calls from collection agencies, low credit scores and reliance upon payday lenders for any future emergencies.
In this article, we will:
Help you figure out if you should consider bankruptcy
Explain how it works
Show the cost of not filing for bankruptcy
Talk about how to avoid filing again
Is Bankruptcy for Me?
Bankruptcy should only be considered if you are in financial crisis. Although financial crisis can have different meanings to different people, we think the following can be a good way to answer the question:
Do you find it impossible to make all of your basic monthly payments? Do you struggle to cover mortgage/rent payment, auto payment, insurance payments and credit card minimums?
Is your total debt (excluding mortgage) more than 50% of your gross annual income?
If you answered yes to either (or probably both) of those questions, you are likely in an unsustainable situation. For example, someone who makes $40,000 before tax and has $30,000 of credit card debt in addition to a mortgage will likely never get out of debt, unless he is able to significantly increase his income. That person has a net monthly income of about $2,000 (may vary by state and cost of healthcare and other deductions). Just the minimum due on $30,000 of credit card debt would be over $1,000.
In our example, that individual would work incredibly hard to stay in debt for over 30 years. During those 30 years, he would pay over $50,000 of interest alone to the credit card company. In addition, because of the high credit card balances (and the high likelihood of missing payments whenever there is an emergency), his credit score will remain incredibly low, making everything else in life much more expensive. A low credit score will result in more expensive auto loans, auto insurance, mortgage re-finance and every other type of borrowing.
It makes no sense for that individual to just keep paying the minimum due. He will be stuck in a life of poverty, unless he can increase his income.
Bankruptcy is not for you if:
All of your debt is in student loans. It is virtually impossible to discharge your student loan debt in a bankruptcy.
All of your debt is with your mortgage or your auto loan. Secured debt is not considered as part of the bankruptcy. (However, you may have the opportunity to get your auto loan balance reduced as part of a bankruptcy. The process is called a cram-down, and the amount of the loan that is greater than the value of your car can be forgiven if you negotiate properly).
You can afford to repay the debt. Beyond the moral issues of walking away from debt, there is now a means test and you may not be able to file bankruptcy if you have sufficient assets or income to service the debt.
How does Bankruptcy Work?
There are 2 types of bankruptcy: Chapter 7 and Chapter 13.
Chapter 7 is a true “fresh start.” In most cases, all of your unsecured debt (credit cards, personal loans) will be discharged. That means creditors will no longer be able to do any form of collections. The phone calls stop. The wage garnishment stops. The lawsuits stop. There is a record of the debt discharge on your credit report, and it will stay there for 10 years. However, for most people the recovery from bankruptcy is remarkably rapid. If you are in debt crisis (as we defined above), a bankruptcy can help you recover in as few as 2-3 years, compared to a lifetime sentence of poverty. 70% of all bankruptcy filings are Chapter 7. We should warn you: for the full 10 years, you will still have some limitations. Some lenders will never lend to someone with a bankruptcy on their credit report. Some employers will not hire employees with former bankruptcy. And, in the military, filing bankruptcy can result in the loss of intelligence clearance, which could cost you your career. All of these factors need to be considered before filing.
In Chapter 13, you do not have all of your debt discharged. Instead, a portion of your debt is written off, and a payment plan is created for the remainder of the debt. It takes longer to recover from a Chapter 13 bankruptcy, and for most individuals a Chapter 7 is preferable. The main reason people end up in Chapter 13 is because they fail to qualify for Chapter 7 (because they have too many assets or too much income relative to their debt to qualify for Chapter 7).
You should speak to your lawyer, but in most cases for people in debt crisis, a Chapter 7 makes the most sense and will certainly lead to the fastest recovery.
Just remember: Chapter 7 and Chapter 13 generally can not help you with mortgage, auto and other secured debt or student loans. The only way it will help is by eliminating other debt, helping you to make payments on your mortgage.
The Cost of Not Filing for Bankruptcy
In 2005, bankruptcy “reform” was passed. It did 3 big things:
Introduced a means test. If you household income is above the median, you have much higher hurdles to cross before having your bankruptcy petition approved
Increased the cost of filing. The cost of filing for bankruptcy has increased by 44%, from an average of $697 to an average of $975. As you can imagine, higher costs make it more difficult for those with the least amount of money to afford the filing.
Made student loans off limit. Student loan debt is now a protected bubble, and it is virtually impossible to have that debt discharged.
As a result of these changes, the number of people filing for bankruptcy declined significantly. The Fed has looked at the impact of this decline in bankruptcy filings, and the results are startling. They clearly show that many people would have been much better off had they filed. Here are the findings:
Because bankruptcy now costs more, the poorest people are least likely to file. (And they need it the most)
The Federal Reserve tracked the likelihood of people to file for bankruptcy before and after the change to the law. People with higher incomes continued to file for bankruptcy, whereas those with the lowest incomes filed at a much slower rate. The Fed concludes that “liquidity constraints” kept people from filing. In other words, people were too poor to file for bankruptcy.
People who file for bankruptcy recover much quicker than people who don’t file.
People who file for bankruptcy see a much quicker improvement in their credit score than those who don’t. Why? People who don’t file bankruptcy (but are in financial crisis) continue to struggle to make minimum payments. They continue to deal with accounts in questions. They continue a life of chronic debt.
The table below (from the Fed) shows that people who file bankruptcy could get a score of 620 within a year of filing.
The top 2 lines show people filing for bankruptcy (3 months and 12 months after filing). The lines at the bottom show people who remain in chronic collections, but don’t file for bankruptcy. Their credit scores stay in the low 500s.
In addition, the ability to open new credit accounts (like an auto loan or mortgage) is severely restricted for people who can not file bankruptcy, but remain in collections. The chart below shows the number of new accounts opened by those stuck in default, versus those who filed bankruptcy:
You can see on the red line that people who don’t file bankruptcy, but stay in collections, are unable to open any new form of credit. If they do need to borrow, they will be forced to payday lenders, title loan companies or worse.
How to Prevent Future Bankruptcies
There are 2 criticisms against bankruptcy that we agree with at MagnifyMoney. First, some people have abused the system historically. They enjoy spending the money that they borrow, they can afford to repay, but they use bankruptcy as a way to walk away from debt. In addition to the moral questions, it also drives up the cost of borrowing for responsible people (because they have to pay for the people who don’t pay back through higher interest rates).
Second, people use bankruptcy as an easy way out of debt, but they never fix the core problem. As a result, 5-7 years later they are back in the same situation.
The bankruptcy reforms of 2005 did introduce a means test. If you income is below the national medium, you can file for bankruptcy easily. If, however, you income is above the median, you will have to pass a means test. That makes it difficult for people who have assets and income to walk away from debt.
The second issue is trickier. We believe that before filing for bankruptcy, everyone should truly understand why the problem happened, and deal with the root cause. In the Self-Assessment chapter of our free ebook (which you can download here), we dig deep into your budget. You should look to understand:
Are your fixed expenses too high? When mortgage and car payments eat up a big chunk of your monthly income, you can very quickly end up borrowing on credit cards to get through the month. Although difficult, selling your home or car and downsizing could be the difference between avoiding debt, or ending up back in the same place you started.
Can you control your discretionary expenses? Can you actually live within a budget? Do you even have one?
Do you have health insurance? So many big medical expenses were the result of no health insurance. With Obamacare, most Americans can find a health policy that can at least protect against massive medical bills.
If your fixed expenses are too high, and you can’t live within a budget, you will likely end up in bankruptcy again. You should do the hard work now to make sure bankruptcy is a tool that you only use once.
For many people, bankruptcy is the fresh start that they deserve. Too many people stay in a chronic state of debt, when bankruptcy would be the right answer. However, the decision should not be taken lightly. And everyone (whether you have filed for bankruptcy or not) should be taking the necessary steps to build a secure financial future.
For some people, bankruptcy may be an appropriate option. In a bankruptcy, you may be able to eliminate some or all of your debts. However, debt forgiveness does not come lightly. Chapter 7 (where all eligible debt is eliminated) stays on your record for 10 years. Chapter 13 stays on your report for 7 years. And, during that time (especially in the first 3-5 years), you may find it virtually impossible to apply for any new credit. And credit is not limited to mortgages and auto loans. It can even include pay-as-you- go mobile phone packages. If you work in the financial services sector, you may find that bankruptcy will make it impossible to get a job. So, this decision should not be taken lightly.
However, for some people, this may be the only option. I will give a few examples of people whom I have met, where bankruptcy made complete sense:
A hardworking man had a medical emergency. Unfortunately, he did not have medical insurance. The total bill was over $500,000. And his annual salary was $40,000. There was no chance that he would ever pay off that debt. Bankruptcy made perfect sense.
A married couple unfortunately did not plan for the future. They had no life insurance, no savings and credit card debt. The husband was a professional, and the wife stayed at home with the children. The husband died unexpectedly. Between the funeral, the credit card debt from before the marriage and the costs of the transition, the widow had over $75,000 of debt. She was able to get a secretarial job for $25,000. It made sense to eliminate the debt with bankruptcy.
The biggest reasons for bankruptcy are medical and divorce. We always try to work with people to help them prepare for the worst. Everyone should have medical insurance, even if that means paying for a high deductible (low premium) policy that at least insures against bankruptcy. If someone depends upon you (like the husband in the story above), term life insurance is necessity, and it doesn’t cost much. In medicine, it is always better to prevent (via a good diet and exercise) than to fix after something goes wrong. The same is true in financial matters. However, if you are now in the emergency room, a bankruptcy may be the right option.
What can a bankruptcy do for me?
A bankruptcy gives you the opportunity to eliminate a significant portion of your debt. The bank has to write off the debt, and is no longer able to collect on the debt.
In Chapter 7 bankruptcy, all of the eligible debt is eliminated. It takes about 3-6 months to have the bankruptcy discharged.
Most or all of your unsecured debt will be erased. Unsecured debt would include things like credit card debt, personal loan debt, medical bills, mobile phone bills and other debt.
Certain types of debt are usually excluded from bankruptcy. These include student loan debt, tax obligations, spousal support, child support and some other types of debt can not be eliminated.
Some of your property may have to be sold to pay off your debt. However, in most cases, your primary property is exempt.
For secured property (like an auto loan), you will be given a choice. You can continue to pay, you can have the property repossessed, or you can make a lump sum payment (at the replacement value).
If your problem is with credit card debt and/or medical debt, than Chapter 7 makes sense. All of that debt will be wiped out. You continue to pay (and keep) your mortgage and auto loan.
In a Chapter 13 Bankruptcy, you are not able to eliminate all of your debt. Instead, you will be forced to make regular monthly payments towards your debt before it is completely eliminated.
Chapter 7 or Chapter 13?
If given the choice, most people would choose Chapter 7. From a credit score perspective, they both have equal (negative) impact on your score. In fact, here is what FICO says:
The formula considers these two forms of bankruptcy as having the same level of severity and, for both types, uses the filing date to determine how long ago the bankruptcy took place. As with other negative credit information, the negative effect of a bankruptcy to one’s FICO score will diminish over time.
So, if you get the same penalty, but in one form of bankruptcy all of your debt is wiped out, and you still have to pay back some debt in the other form, then you would probably choose Chapter 7. And most people did, until the law was changed in 2005.
Note: there may be some instances when you will want to file Chapter 13 instead of Chapter 7. For example, if you are behind on your house payments and want to keep your house, Chapter 13 may make more sense. Why? In Chapter 13, you can put your past due mortgage payments into your repayment plan, and pay them back over time. In Chapter 7, your past due mortgage payments may be due right away.
However, in the majority of cases, Chapter 7 is more favorable to the borrower than Chapter 13.
There are now some “means tests” required to see if you can file for Chapter 7. Here are some very basic rules:
If your family income is below the median income of your state, you will probably be able to file Chapter 7. The income used is the average of your last 6 months income. You can find the median incomes here.
If your income is above the median, you may still be able to file bankruptcy. However, you will have to pass a means test. Your income and expenditures will be looked at, to see if you have the ability to make payments towards a payment plan over 5 years towards the accumulated debt.
In addition, if you tried to be clever, you will likely be caught. Any recent cash advances on your credit card, and any recent luxury purchases can be exempt from the bankruptcy completely.
It used to be very easy to file for Chapter 7 and have all of your unsecured debt eliminated. That is no longer the case. But, if you have low income, you can still proceed. And, if you have a very difficult situation, you can still find a path towards eliminating a significant portion of your debt.
How to Proceed
As part of the bankruptcy legislation, you need to meet with a non-profit debt counselor before you are allowed to file for bankruptcy. So, whether you are thinking about negotiating settlements or filing for ?bankruptcy, it makes sense to meet with a counselor. You can find a list of the approved agencies here.
For further reading on bankruptcy, we recommend this website (NOLO) – they have an excellent library of information.
If you are in too deep, bankruptcy may be the only remaining viable option. I have met many people who filed bankruptcy, and went on to live very fulfilling and prosperous lives. Companies file bankruptcy all the time – and I believe that people should have the same legal protections that companies have.
You just need to be realistic about what bankruptcy can and cannot do. If you have student loans, tax liens, spousal support or child support – you will not be able to use this tool. You need to find a way to pay back your debt.
But, if you have been hit with a big medical bill, or your credit card debt is just too large relative to your income, bankruptcy could be the best option. It will be a very difficult 2 years. By Year 3, things will look a lot better. And, 7 years later, your score will reflect the person you have been in the last 7 years. A very good friend of mine had filed bankruptcy. He now has a home (purchased with a mortgage at a low rate). He has a car (purchased with a 0% car loan). And he has a rewards credit card (that he pays off in full every month). His score is high. It was a rough couple of years, but it made sense. Otherwise, he would have been making minimum payments for 30 years and still wouldn’t be out of debt.
Weigh your options carefully. Meet with a non-profit counselor. We are always available at MagnifyMoneyto talk as well (just email us at firstname.lastname@example.org).
If you’re one of millions of Americans trying to get rid of consumer debt, you’ll do almost anything to pay it off quickly: work long hours, take on a part-time job, sell your belongings in a yard sale.
When you’re feeling helpless about your debt, consolidating your loans might seem like the best option, especially if you have multiple types of loans weighing you down.
Why is debt consolidation so popular? Consolidation involves either taking multiple loans and converting them into one loan, or transferring one loan with one lender to another one, locking in more favorable terms along the way. Most of the time, people consolidate because they get a better interest rate they want to take advantage of. After all, a lower interest rate could help people pay off the debt faster and save money at the same time.
Other consumers like to consolidate if they have multiple loan payments that are proving difficult to juggle. Consolidating can simplify their finances and ensure that they’re not missing any payments.
However, consolidating your debt isn’t risk-free. Indeed, it’s a strategy with many potential repercussions, not the least of which are the impacts to your credit score and your financial future in general. Many people sign up for debt consolidation thinking it’ll change their lives, without realizing what they’ve actually agreed to.
Risks to consider before consolidation
You may pay more interest over time. One of the biggest risks when consolidating a loan is that you could end up paying more than you did before. If your consolidation loan has a longer loan term (that’s how much time the lender gives you to pay back the loan), you might pay more in interest overall than if you had kept your other loan(s) as is.
When some people consolidate their loans, they find that their monthly payments are now less than in the past. Some vow to keep paying the same amount anyway, to take advantage of lower interest rates and take bigger chunks out of the principal in the process. This is ideal. If you simply keep paying your new reduced monthly payment, it could take longer to pay off the loan and you could face higher interest charges in the long run.
Your credit might take a temporary hit. You might decide that paying down debt is worth the risk of a temporary ding to your credit, but it’s still a risk worth noting. If you are taking out a new credit card, a home equity loan or any other type of loan to consolidate debt, the lender will have to pull your credit report.
Every time you open a new form of credit, it has two impacts on your credit score. First, it counts as a hard inquiry and can erode your score. New credit inquiries will also stay on your credit report for a year, according to Experian, complicating attempts to take out another loan.
Secondly, a new debt on your report decreases the average age of your credit. The lower your credit age, the lower your overall score.
Which doesn’t mean you should avoid debt consolidation. It just means you should consider the pros and cons. Indeed, the benefits of debt consolidation can certainly outweigh this risk.
Debt relief fees. Some consolidation companies that promise to service your debt also end up charging high fees for something you can do yourself. Before consolidating, read reviews of banks and lenders to see which one will have the fewest fees and best rates you can get.
You may not solve the underlying issue. When you take out a new loan to repay other debts, you may not be fixing whatever foundational problem dragged you into debt in the first place. It’s one thing to face an unexpected medical emergency that resulted in bills you can’t afford to cover out of pocket. But if your debt is the result of overspending or a lack of budgeting, then you may only be treating the symptoms of a bigger condition. Because you are trading in one set of loans for another, you may still struggle to pay down the debt if you don’t change your spending habits.
Next up: We’re going to cover several ways to consolidate your debt and explain the pros and cons of each.
4 ways to consolidate your debt — and the risks involved
How they work. A balance transfer is when you take a credit card balance and move it to a different card, usually one that you have just opened. Most consumers use a balance transfer because they’re relatively easy to do and because they find a credit card offering a lower interest rate than the one they aim to replace.
Many credit card companies have special promotions in which you can get a 0 percent introductory APR on balance transfers for a certain length of time, sometimes as long as 24 months. Because credit card interest can be in the double digits, transferring a balance to a card with no interest lets borrowers pay off their total debt much faster.
For example, if you have a $5,000 balance on a credit card with 15% APR and you apply for a credit card with 0% intro APR for 24 months, you could transfer the balance and save $639.73 if you pay off the balance before the offer ends (making $250-a-month payments to accomplish that goal).
However, there might be a fee you have to pay with a balance transfer, often set at 3-5 percent of the total balance. Do the math before you apply for a balance transfer offer. The money you will save on interest charges might outweigh the cost of the balance transfer fee.
Risks. One of the risks of a balance transfer is that you might not actually pay off the balance before the balance transfer offer ends. This is dangerous because then you could end up paying high interest fees on top of the balance transfer fee you already paid to start the ball rolling.
Also, opening up a new credit card will usually ding your credit score and drag down the average age of your credit accounts (also a ding). If you’re applying for a mortgage or other significant loan, a new credit inquiry could hurt your chances of getting the best rate.
Credit card companies can be ruthless when it comes to 0 percent balance transfer offers. If you miss a payment or are late, your special offer could end, and you could be switched to the regular, substantially higher APR. If you go through with a balance transfer, set up autopay, or check every month to make sure your payment has gone through on or before the due date.
How they work. A personal loan can be applied in a number of ways, such as paying off medical bills, funding a wedding or consolidating debt. It’s a fixed amount of money borrowed for a fixed amount of time. If you have a high credit score and a solid income, you may be able to qualify for a loan with a decent rate, which can make this a more affordable borrowing tool than, say, a high-interest credit card. On the other hand, people with poor credit may still qualify for a personal loan, but are likely to have to contend with much higher interest rates.
Applying for a personal loan is easy. You can reach out to a local bank or credit union or apply online. MagnifyMoney’s parent company, LendingTree, has a great personal loan tool. Most lenders will give out personal loans up to $35,000 and will ask that they be repaid within three to five years. If you get approved for a personal loan, the bank will usually wire you the funds, and then you can use them for any purpose.
Risks.A personal loan is often set up as a short-term loan. While this might help people pay off their debt expeditiously, the pitfall of a compressed timeline is the difficulty of staying on track. There’s no point in getting a personal loan to consolidate your debt if you end up unable to repay your loans.
A HELOC is a line of credit you have access to for a certain period of time. You can withdraw money for a certain length of time and then enter a final repayment period, whereas a home equity loan means the bank gives you a lump sum that you then repay every month. The amount you can receive depends on how much the home is appraised for and how much you still owe.
Many people prefer to take out a home equity loan or HELOC for debt consolidation purposes because interest rates are usually far lower than they would be on a different kind of loan. Unlike a personal loan or credit card balance transfer offer, a HELOC is backed by a piece of property that the bank can resell if you stop making your payments. For that reason, lenders are willing to give you a better deal than if you take out a loan that’s not secured by such collateral.
Risks. A home equity loan and a HELOC are, as we noted, backed by the home as collateral. If you fail to repay the home equity loan or HELOC, then the lender can seize the residence. In such circumstances, not only does your credit history take a hit, you also may have lost your biggest financial asset.
If you lose your home due to foreclosure, your credit score will also likely tank, making it harder to purchase another house. These issues are all a huge reason why consumers should be careful about these particular options.
Student loan consolidation (private and federal)
How it works. If you have student loans through the federal government, you can either consolidate/refinance them through the Direct Consolidation Loan program or through a private lender. You won’t save any money on interest with the Direct Consolidation program, however, as the program determines your new interest rate by averaging the rates on your existing loans. But it can be helpful for borrowers juggling multiple student loan payments.
If you’re looking to save on interest, then you may choose to refinance your loans with a private lender instead. To get the best refi offers, you’ll have to have great credit and a solid income. Check out MagnifyMoney’s list of the best student loan refinance companies out there. Like other forms of consolidation, refinancing your student loans will streamline your payments and make it easier to stay on top of what you owe. If you’re apt to forget payments, then consolidating several loans into one, with one payment, might help you avoid racking up late-payment fees.
The risks. If you decide to consolidate your federal loans with a private lender, you will lose all the protections and benefits that come with federal loans, including deferment, forbearance and income-based repayment plans. Forgiveness options such as the Public Service Loan Forgiveness Program are also off the table if you consolidate your federal loans with private loans, even through federally guaranteed banks.
Income-based plans are useful if you work in a low-paying field or have an unstable job. Most private loan servicers don’t provide these types of options, which makes it even more important to keep your federal loans where they are.
Often, consolidating your student loans can mean that your monthly payment decreases as your payment term increases. Unless you’re actively paying more than the minimum every month, you’ll end up paying more in interest overall.
Alternatives to debt consolidation
If you’re having trouble managing your debt, refinancing your loans could be one solution. When you refinance, your hope is to secure a loan with more favorable terms, ideally a lower APR, but you may also refinance in order to get a loan with lower monthly payments.
The simplest way to take hold of your debt is to go over your expenses and compare them to your income. Are there any changes you can make to spend less money every month? Could you try to eat out less or take the bus to work? All those small substitutions will add up quickly and you can put the difference toward your loans.
If you want to pay off your debt quickly and are afraid of consolidating, consider using the debt snowball approach, popularized by Dave Ramsey. This strategy recommends paying off the smallest balance first. Then, when that loan is extinguished, you’ll apply the monthly payment to the next-smallest balance, and so on, until all your debts are repaid. The snowball method can help you feel empowered, and not overwhelmed, in tackling your loans.
If you’re truly having difficulty with your loans, you should consider talking to a bankruptcy attorney. That expert should be able to tell you if your situation is truly dire and if you should consider filing for Chapter 7 or 13.
The bottom line
Consolidating debt can make sense for the right person. If you’re already trying to pay off your debt quickly and want to minimize your interest fees, then consolidation could save you even more money and time.
Before you sign up, however, look at the total amount of interest you’ll pay with your current loan terms compared with the terms of consolidation. Will you save money? Or will you just trade in smaller payments in exchange for more breathing room?
If you see consolidating as one more way to extend your payments, then doing so won’t lead to debt payoff. Consider the pros and cons before you decide on debt consolidation — and be aware that it’s not a magic cure.
Getting a mortgage with bad credit isn’t easy. Banks and credit unions became ultraconservative with mortgage lending following the 2008 housing market crash. However, these days, tighter lending standards don’t have to force you out of the mortgage market. If you have a stable income, you may qualify for a mortgage, even with bad credit. We’ll explain the best home loans for people with bad credit, offer tips for cleaning up your credit histories and point out scams to avoid.
If you’re just starting to shop for home mortgages, it pays to know if banks think you have bad credit or not. Here’s how FICO, the main credit score provider in the U.S., breaks down credit scores:
740-799: Very good
579 and lower: Poor
A credit score above 740 is optimal for finding the best mortgages, but you can often secure a mortgage with a much lower score. You might find an FHA mortgage with a credit score as low as 500 (albeit with a 10 percent down payment rather than 3.5 percent rate for scores above 580), but a credit score of around 650 gives you a decent chance of qualifying for a home mortgage. Getting a mortgage with a truly bad credit score will be difficult, and improving your credit to “fair” status could make it much easier.
Where can you check your credit score? Banks and credit unions use the FICO Scores 2, 4 and 5. These are not the same scores you will find through a free credit scoring site. Unfortunately, we haven’t found a free option for checking your FICO Scores 2, 4 and 5. The best option for checking these is checking them on MyFICO, which costs $59.85.
If you don’t want to pay for a credit score, consider using a free scoring site. But don’t put too much stock in the number it offers. It may overestimate your credit score (for mortgage shopping), especially if you’ve paid off debt in collections recently, and some free scores don’t use the 300-850 scale FICO often uses. Instead, focus on the information about what’s helping and hurting your credit score, if the tool offers those insights, and use that knowledge to make improvements where you can.
Mortgage insurance premiums are paid for the life of the loan,
except when putting 10 percent or more down. If your down payment is
less than 20 percent but 10 percent or more, you must have
mortgage insurance for 11 years.
If you have bad credit, an FHA loan offers a more accessible mortgage. While credit standards vary by lender, you may qualify for the FHA loan with a credit score as low as 500. With a credit score above the 580 threshold, you may qualify for the 3.5 percent down payment.
Unfortunately, an FHA loan can be expensive because of mortgage insurance fees. In addition to paying ongoing mortgage premiums for the life of the loan, you’ll have to pay a 1.75 percent upfront financing fee.
3.5 percent down payments (for those above the 580 credit-score mark)
Credit scores as low a 500
Can buy up to four units
1.75 percent upfront mortgage premium
Ongoing mortgage insurance
Smaller loan limits
Where to get an FHA loan
You can use the comparison tool on LendingTree or Zillow to find offers from FHA-approved lenders in your area willing to work with people with bad credit. If an online search doesn’t yield the results you want, you may need to work directly with a mortgage broker who specializes in finding mortgages for people with bad credit. You can use a site like Find A Mortgage Broker or Angie’s List to find brokers in your community.
Be sure to check the National Multistate Lending System (NMLS) to see if your broker has had any regulatory action filed against them. Regulatory actions against the broker are red flags that indicate you may want to take your business elsewhere.
Fannie Mae HomeReady Mortgage
HomeReady Mortgage Details
Credit score required
A minimum requirement of 620 generally applies
to Fannie Mae products.
Down payment required
3 percent for credit scores above 680
(for single family homes). 25 percent for credit scores
between 620-680 (for single family homes).
If you’ve got a fair credit score but a big down payment, the Fannie Mae HomeReady mortgage is the best conventional mortgage for you. With a 620 credit score and a 25 percent down payment, you meet HomeReady eligibility requirements, and you’ll pay no mortgage insurance. Fannie Mae offers a 3 percent down payment option, but you need a credit score of at least 680.
HomeReady mortgages also allow for cosigners who won’t live at the address with you. That means a parent or grandparent with a high credit score could help you purchase the property by co-signing. If you can find a cosigner, you may qualify for the 3 percent down payment even if your credit score falls below 680.
Can qualify with credit score as low as 620
A low 3 percent down payment if you have a 680 credit score
Down payment doesn’t have to come from personal funds
Mortgage insurance premiums are cancellable
Non-occupant cosigners are permitted
Up to 25 percent down payment required in some instances
Not all lenders offer Fannie Mae HomeReady mortgages, so you might struggle to find a bank with this offering.
Where to get a Fannie Mae HomeReady mortgage
Fannie Mae doesn’t publish a list of lenders who offer the HomeReady mortgage, so you will need to work with your lender specifically to see if they offer it. Most major banks and credit unions will be approved to underwrite Fannie Mae mortgages, but the specific product offering will vary by bank.
Consider using an online mortgage comparison engine including LendingTree or Zillow to compare offers in your area. However, once you find lenders that will work with you, you’ll have to ask them about the HomeReady mortgage, especially if you want to use the 3 percent down or co-signing feature.
For people with a military background, the VA loan is a top mortgage option. The upfront financing fee can be hefty, but it’s a good deal if you plan to live in the house for several years. That said, not all VA lenders work with buyers with bad credit, so you may struggle to find a reputable lender in your area.
No down payment required
No mortgage insurance
No firm credit minimums
Can buy up to four unit multi-family property.
Upfront funding fee
Not all lenders issue VA loans to borrowers with bad credit
Must buy home with the intent to occupy for at least 12 months
If you’re planning to buy in a rural area (and you may be surprised what qualifies, so check), a USDA loan offers a low cost, low money down loan. Technically, the absolute minimum credit score for this loan is 580, but most lenders won’t issue USDA loans to borrowers with scores below 640. USDA loans tend to be a better deal than FHA loans, but they may have higher costs compared to VA or conventional loans. If you’ve got fair credit, but you don’t have a big down payment, the USDA loan makes sense for you.
No down payment
Only 1 percent upfront mortgage fee
Ongoing financing fee cannot be canceled
Finding lenders who work with bad credit borrowers can be difficult
Must meet location and income criteria
Where to find USDA loans
If you meet the USDA eligibility requirements, you can start shopping for USDA loans through LendingTree, but you may not find many offers if you have a credit score below 640. If you can’t easily find a lender, you’ll want to work with an independent mortgage broker who will have insider access to multiple lenders in your city. You can find reputable brokers online through Find A Broker, Angie’s List or the Better Business Bureau (search for mortgage brokers, your city). Before committing to a broker, check that your broker has no regulatory action filed against them.
Manufactured home loans for bad credit
Manufactured homes are houses constructed off-site, transported and anchored to a permanent foundation at a new home site. On average, manufactured homes cost 80 percent less than site-built single family homes, but taking out a mortgage for a manufactured home can be expensive, even if you have good credit. According to the Consumer Financial Protection Bureau, almost 68 percent of all loans for manufactured home purchases were considered higher priced mortgages. On top of already high rates, bad credit will drive your interest rate even higher. However, thanks to the lower upfront price, people with bad credit may have an easier time finding home financing for manufactured homes than for site-built homes.
FHA Title I loans (Chattel loans)
FHA Title I Loan Details
Credit score required
No credit score minimums, but
must meet ability to pay criteria
Down payment required
5 percent down for credit scores above 500,
otherwise 10 percent down
Upfront financing fee
Up to 2.25 percent
Up to 1 percent
Home only: $69,678
Lot only: $23,226
Home and lot: $92,904
Mortgage term limits
20 years for home only
20 years for single-section home and lot
15 years for lot only
25 years for a multi-section home and lot
Manufactured homes can be titled as personal property.
Manufactured homes must be situated on a lot that meets
FHA property standards (such as hookups for water and electricity,
and foundation anchors) that is owned or leased by the primary
mortgage holder. Manufactured home must be at least 400 square feet.
The FHA Title I loan is an obvious choice for people with bad credit looking to buy a manufactured home, but you need to do your research before you commit to this loan. According to the CFPB, Chattel loans had 1.5 percent higher APRs than standard mortgages. These loans also come with expensive mortgage insurance fees that can be passed on to you.
However the Chattel loan makes sense if you’re buying a used manufactured home or if you plan to rent the lot where your home sits.
Manufactured homes must be titled as real
property and you must own the lot.
All manufactured homes must meet standards set by the
FHA including foundation anchors, water and electrical hookups and more.
A standard FHA loan makes sense if you’re planning to buy a manufactured home and land. While credit standards vary by lender, you may be able to qualify for the FHA loan with a credit score as low as 500. If you can raise your credit score to 580, you may even qualify for the 3.5 percent down payment.
This loan isn’t as easy to get as the Chattel loan, but some people with bad credit may qualify. If you want to use an FHA loan for a manufactured home, work with your loan officer closely, so your financing is in place before your home is completed.
If you’re purchasing a new manufactured home in a rural area, the USDA loan may make sense for you. The manufactured home must be new, and you have to own the site where the home is located. However, with the lowest acceptable credit score being at the 580 threshold, USDA loans aren’t suited for bad-credit borrowers. Improving your credit to “fair” could be the difference between rejection and approval..
The VA loan offers a down payment of 0 percent (even for manufactured homes) as long as you own (or will buy) the lot where the home is located. The drawback to the VA loan is that most lenders set their credit score standards in the 600-range, which means that people with bad credit might not qualify. On top of that, not every VA lender offers loans for manufactured homes. Those two factors mean the you may struggle to find a lender in your area who will work with you.
If you find the lender, the VA loan is a great choice, but if you can’t, consider an FHA loan instead.
No down payment required
No mortgage insurance
No firm credit minimums
Upfront funding fee
Not all lenders offer VA loans for manufactured housing
Must buy home with the intent to occupy for at least 12 months
Must own lot
Where to get a VA loan
To take out a VA loan, you must get a certificate of eligibility (COE) through the Veterans Administration eBenefits platform. Once you get this, find an independent mortgage broker who specializes in VA loans for manufactured homes or VA loans for people with bad credit. These brokers work with multiple banks and can help you find better deals than you might find on your own. Before committing to a particular broker, check for regulatory action filed against them. You don’t want to work with a broker who fails to meet the standards set by your state.
Conventional Mortgage Details for Manufactured Homes
Credit score required
Down payment required
5 percent (10 percent for people with insufficient
credit for traditional scoring)
Upfront financing fee
0.5 percent annually
Must own land, and home must
be titled as real property.
You’ll have to pay mortgage insurance until your
home reaches at least an 80 percent loan-to-value ratio.
If you’ve got a 20 percent down payment and at least a 620 credit score, and your home meets underwriting standards, the conventional mortgage is the best choice for you. This loan has competitive interest rates and no mortgage insurance for people with a loan-to-value ratio of at least 80 percent. Your home must be at least 600 square feet and meet HUD standards for manufactured homes, and you must own your lot. However, you can use this loan to purchase an existing manufactured home (built after 1976) if it is permanently affixed to an approved foundation.
Another advantage to this loan is that they do accept borrowers with thin credit files, provided they don’t have derogatory marks on their credit file.
Aside from those mortgages, manufactured home buyers with bad credit might consider two other options. First, you might consider a retail installment contract. A retail installment contract is issued by the manufacturer (or installer) or your home. If you’re working directly with the manufacturer to take out a loan, you should take the time to understand upfront and ongoing fees, APR and what happens if you miss a payment. The Manufactured Housing Institute provides detailed information on buying and living in manufactured houses and on how to find manufacturers and lenders who can help you finance a manufactured home.
Borrowers with bad credit might also consider owner-held financing option. Owner-held financing is a readily available form of credit, but it is risky. Before signing a lease to own agreement, find a real estate lawyer who can help you uncover title issues and explain the loan. To learn more, you can either find a lawyer through your employer (who may offer legal benefits), the American Bar Association or by contacting HUD office of housing counseling in your state.
Clean up your credit before mortgage shopping
In 2016, the average new home cost $372,500, but that’s before paying interest. According to Informa Market Research, the average interest rate for a person with a credit score between 620 and 639 is 5.115 percent, but a person with a score of at least 760 gets a 3.527 percent rate. Does just a point and a half translate to much cost difference? Absolutely. If both people finance $298,000 on a new home, then the person with great credit will pay $1,343 per month. The person with lesser credit will pay $278 more, $1,621 per month. That translates to more than $100,000 more over the life of the loan.
Tips to improve your credit score
To repair your credit before taking out a mortgage, and qualify for better terms and more options, start with these three simple steps:
Pay all your current debt accounts on time, each month.
Disputing errors on your credit report may prevent a bank from issuing you a mortgage, so start disputes at least 90 days in advance of applying for a mortgage. While the credit bureaus should clean up the errors within 30 days, the process sometimes takes longer
Getting a mortgage after bankruptcy or foreclosure
Bankruptcy stays on your credit report for up to seven or 10 years, depending on the type, and foreclosures stay on your credit report for up to seven years, but you don’t have to wait that long to take out a mortgage. If you take steps to improve your credit, you can qualify for some mortgages one to four years after your bankruptcy is dismissed, or two to four years following foreclosure.
Four years from discharge or dismissal (except in extenuating circumstances)
Two years (or one year in extenuating circumstances)
Generally, two years (though it is not a disqualifying standard)
Generally, three years
Four years from discharge or dismissal (except in extenuating circumstances)
Must meet credit standards
Generally, two years
Must meet credit standards
Two years after discharge or four years after dismissal
Two years (or one year in extenuating circumstances)
One year of payments
Generally, one year
Seven years, except if foreclosure was discharged in bankruptcy (then use bankruptcy limits)
Three years except in extenuating circumstances
Generally two years
Generally, three years
Even if you can get a new mortgage just a year or two after bankruptcy or foreclosure, it makes sense to wait longer in most cases. By waiting around three or four years, the damage of the bankruptcy and foreclosure fades, and you’ll have that extra time to revive your credit score.
To get your credit in shape after bankruptcy or foreclosure, you’ll want to continue to make bankruptcy payments as agreed and consider opening a secured credit card to rehabilitate your damaged credit. Use the credit card for daily expenses, and pay it off in full each month.
Improve your shot at approval even if you have bad credit
If you’ve got bad or fair credit, and you don’t have a lot of time to improve it, you can still take out a mortgage in some cases. These are a few things that can help you get approved with a low credit score.
Choose a house well within your budget. If you’ve got a strong income and a low monthly payment, the bank may be more likely to approve your loan.
Come up with a larger down payment. While the median down payment is just 5 percent, a person with bad credit may need quite a bit more (up to 25 percent) to get a loan.
Work with your loan officer: Give them paperwork in a timely manner, and follow their instructions regarding credit repair, collection repayments and debt repayments. If you’re close to gaining approval, the loan officer can help you take the last few steps to meet the bank or government’s underwriting criteria. Loan officers may take advantage of manual underwriting provisions for FHA, VA, USDA and conventional loans, but that requires more information and participation from you.
Ask for rapid rescoring if you’re disputing errors on your credit report, or paying down credit card debt.
A rapid rescore is a method for “re-checking” your credit score on an accelerated time scale. Banks usually only check your credit score once when they’re considering your for a loan, but they may pay a fee to see a new score if you’ve paid down debt or removed negative information from your report, according to Experian. The bank will use the new information to recalculate your credit score to see if you qualify for a loan.
Should I keep renting?
A bad credit score by itself shouldn’t stop you from buying a home. You’ll pay more in interest costs over the life of the loan, but you’ll also start building equity sooner. Plus, a few years of paying on a mortgage will help you raise your credit score, so you can refinance later on.
However, a bad credit score can be a symptom of a bad financial situation. If you’re struggling to pay your bills on time, buying a house isn’t usually a good idea. During financial stress, a new mortgage bill is more likely to be a curse than a blessing.
Watch out for these scams targeting people with poor credit
Financial scammers are always on the prowl for desperate people who might become their next victims. These are a few pitfalls that all homebuyers need to avoid as they shop for homes and mortgages.
Mortgage closing scams
Mortgage closing scams are pernicious schemes that involve falsifying wiring instructions, the FTC warns. In a mortgage closing scam, a hacker poses as a title closing agent. He or she may email you fraudulent information about where to wire the money, or claim that there’s been a last-minute change to the details.
Closing for a home is an incredibly busy time, especially if you’ve struggled to qualify for the mortgage in the first place. To prevent mortgage closing scams, ask your title agent to send the wire information in an encrypted email. You can also request a call with the details.
Anyone who has been a victim of a mortgage closing scam should report it to the FBI immediately, and log a complaint in the FBI’s Internet Crime Complaint Center.
Complex lease-to-own deals
Owner financing isn’t necessarily a scam, but it can be complex. Many owner financing deals don’t put the title into your name until you’ve paid off the entire loan, and some deals require balloon payments after a few years, the FTC warns. If you can’t cover the balloon payment, you lose every cent of equity you’ve paid.
Even worse than difficult loan terms are situations when the owner can’t legally issue a first-lien loan. If the owner has used the house to secure any other loan, then the bank has a first-lien position on the loan.
Don’t sign an owner financing agreement until a lawyer explain the details of the loan to you. You must take steps to protect yourself from owner fraud if you want to own the house in the end.
Hard money loan scams
Hard money loans are real estate loans for investors interested in flipping a property. Hard money loans come with high interest rates, hefty down payments and short payback periods. Most of the time, hard money lenders evaluate project quality rather than investor credit when issuing loans.
If you’re considering a hard money loan at all, you should have plans to flip a property for a profit. If you can’t earn a profit on the house, then a hard money loan doesn’t make sense.
If you are considering a hard money loan because you can’t find traditional financing, be careful. There’s little oversight of hard money loans, so it’s important you know what you’re getting into with these products. You can check out this guide to hard money loans if you want to learn more.
Anyone struggling to find a mortgage should consider working with a licensed mortgage broker in his/her county. Mortgage brokers work with multiple local banks and credit unions, and they can often help if a banker cannot.
The best credit score to get a mortgage is any score above a 740, but most people with credit scores above 620 will qualify for some mortgages. And yes, it’s possible to qualify for a mortgage if you have a score of 500-620.
Yes. If you took out a loan when you had bad credit, you may qualify for a much better rate by improving your credit after just one to two years of on-time payments on all your lines of credit, according to research from VantageScore Solutions. However, if your bad credit score is the result of foreclosure or bankruptcy, your credit score may not fully recover for seven to ten years, so don’t count on a massive rate drop right away if those are the reasons for your bad credit score.
VA loans don’t require a down payment, and they have no firm credit minimums, but you’ll still need to meet a bank’s underwriting standards (which could be as high as a 640 credit score). If you have a credit score of 580-640 and you meet other qualifying standards, you may qualify for a no-money-down USDA home loan..
Outside these options, the only no-money-down mortgages for people with bad credit include owner-held mortgages or rent-to-own deals. Do your homework.
Not all mortgages allow cosigners, but a cosigner could help you qualify. Asking someone to cosign essentially means asking that person to pay your mortgage if you’re ever unwilling or unable to pay the bill. We generally don’t recommend becoming a cosigner unless you plan to live in the house.
An adjustable-rate mortgage makes a lot of sense if you have bad credit and you are confident you can improve your credit score within seven years before your interest rate adjusts (in the case of a 7/1 ARM). If your credit improves, you may be able refinance at a lower, fixed rate before the interest rate adjustment takes place. However, this option is risky. You may be stuck with higher interest rates if your credit doesn’t improve or if interest rates rise by the time you need to refinance.