The Pros And Cons Of Bankruptcy

If you have severe debt problems, filing for bankruptcy may be an option. However, it is a decision that should not be taken lightly. 

Consider some of the following pros and cons of filing for bankruptcy: 

Pros

Upon filing for bankruptcy, a stay of proceedings comes into effect which provides immediate protection from most creditors. Unsecured creditors and collection agencies will no longer be able to call your home or place of work, and you are no longer required to make payments to them. Most types of wage garnishments will also stop (excluding child support).

A bankruptcy provides you with relief from most types of unsecured debts (i.e. debts for which you have not given property as collateral, such as a credit card) and these debts are extinguished or “discharged” provided you complete the duties required in your bankruptcy. Many people are surprised to learn that personal income tax debt can be extinguished in bankruptcy. There are very few unsecured debts that survive bankruptcy.

Bankruptcy does not necessarily interfere with your on-going payments to secured creditors (e.g. a vehicle loan or mortgage). However, it can pose a problem if you have non-exempt equity in an asset such as your home.

Certain types of assets are exempt or protected from your creditors and the Trustee in your bankruptcy. For example, pension plans, RRSPs, LIFs, and LIRAs are typically protected.  Some property (e.g. vehicles, personal residence, household goods) may be exempt up to a certain value, however this varies by province.

The bankruptcy process is intended to provide a certain degree of financial rehabilitation.  For example, you would be required to complete two debt counselling sessions and submit a statement of your income and expenses each month during the bankruptcy. Completing these responsibilities during the bankruptcy often leads to improved budgeting techniques.

If you are filing for bankruptcy for the first time, you may be eligible for a “discharge” from your bankruptcy after only nine months, provided you complete the required duties. This would enable you to move forward with a fresh financial start.

Cons

Bankruptcy has a hard effect on your credit rating.  You may be able to obtain credit once discharged from bankruptcy, however you also may be subject to higher interest rates and other undesirable terms. This may not be a significant issue if your credit is already poor from unpaid bills and collection issues.

Filing for bankruptcy does have a financial cost. You will have to pay a Trustee’s fee or alternatively, if your income exceeds a standard guideline set by the Office of the Superintendent of Bankruptcy (based on your net household income), you may be required to make “surplus income payments.”  If the surplus income provisions of the legislation apply, your first-time bankruptcy would be extended from 9 to 21 months.  You would also lose your personal tax refund in the year of bankruptcy, as well as any prior year refund. Your GST credits may be sent to the Trustee for a period of time. You would, however, continue to receive child tax benefits if eligible.

Not all assets are protected or exempt from your creditors and the Trustee in your bankruptcy.  For example, in many jurisdictions RESPs are not exempt and can be liquidated by the Trustee.  Unexpected windfalls such as lottery winnings and inheritances must be reported to the Trustee and would be considered property of your bankruptcy estate.

As noted, you must complete a series of duties in order to be discharged from your bankruptcy. These include attending two debt counselling sessions, monthly financial reporting, making payments and providing tax information. While the duties are not particularly difficult or onerous, you may find certain aspects of the process intrusive.

Conclusion

In most cases the benefits of filing for bankruptcy outweigh the disadvantages, however it is important to review your financial situation with a government-licensed Trustee in Bankruptcy.  They will advise you of how a bankruptcy would apply in your specific situation and explore other options that may be more appropriate to your financial needs.