Filing for personal bankruptcy still carries a powerful stigma in this country. Mere mention of the word conjures up images of deadbeats — irresponsible consumers who couldn't be bothered to get a job or figure out a budget.
Yes, there are deadbeats among the bankrupts. But the truth is that there are plenty of people who find themselves in desperate financial straits despite having initially had every intention of paying their creditors. A divorce, the death of a spouse, a severe illness or disability, the loss of a job can all propel even the most well-meaning consumer into debt hell.
Insolvency statistics (12 months ending June 30, 2011)
Number of personal bankruptcies: 89,026
Number of proposals: 45,269
|Source: Office of the Superintendent of Bankruptcy Canada|
People don't tend to share their bankruptcy fears with friends and neighbours. That sense of shame, failure and isolation allows some persistent misunderstandings and falsehoods about the process to linger. In some cases, those mistaken impressions can prevent people from seeking the relief that a bankruptcy filing is designed to provide.
With that in mind, here are eight myths about bankruptcy … and some facts that just might open your eyes:
- I don't want to file for bankruptcy because I'll lose everything. Yes, if you have a lot of assets, chances are you will lose most of them. After all, your creditors do have a right to get at least some of their money back. But you won't lose everything. "This fear-mongering is often disseminated by credit collections people who want to frighten you into paying them rather than seeking the help of a licensed trustee," says the Toronto-based bankruptcy firm A. Farber & Partners. Some assets are protected from liquidation in the bankruptcy process. For instance, creditors usually can't touch locked-in pensions, RRSPs or RRIFs (although RRSP contributions made during the year prior to the bankruptcy filing must sometimes be added to the pot creditors have access to.) Each province and territory has its own list of assets that bankruptcy filers are allowed to hang on to. The exemptions can vary dramatically from one jurisdiction to the next. In some provinces, if you have any equity in your home, that must be included in the available asset pot to be divided among the creditors. But in Alberta, the first $40,000 in home equity is exempt. People are also generally allowed to hang on to modest amounts of furniture, clothing, tools of the trade, and even a car if there's not much equity in it (the car's value minus the amount owing on it). But if you're behind on your mortgage or car payments, secured creditors can still take legal steps to protect their positions despite any bankruptcy filing. You can also keep your pets.
- My friends will all know that I've filed for bankruptcy. We've all seen those little ads in the "legal notices" section of the paper that alert potential creditors to someone's bankruptcy. But that's for larger bankruptcies. If the assets are minimal, the creditors are notified by mail and there's generally no notice in the paper. And while bankruptcy filings are a matter of public record, who actually goes to the bother (registration required) and expense ($8) of searching? So unless you tell them, there's a good chance that friends, neighbours and work colleagues won't find out about your filing.
Who's filed for bankruptcy?
Almost eight per cent of non-retired Canadians between the ages of 45 and 64 — or more than 480,000 people — have gone through at least one bankruptcy in their lives. Source: Statistics Canada
- My credit rating will be ruined if I file for bankruptcy. Creditors sure don't like to see a bankruptcy notation in someone's credit file. But if you're many months behind in paying your bills, collection agencies are calling and you're not able to pay back anything close to what you owe, your credit rating will already be a disaster. For the record, in most provinces a bankruptcy notation remains on your credit report for six years after you're discharged (which can occur in as little as nine months after filing). Arranging a consumer proposal (often thought of as a less drastic solution to bankruptcy) remains on the credit file for at least three years after it's been satisfied (which can itself take several years). Even entering into a debt management plan through a credit counselling agency (where you will often be paying back every cent owed) gets a notation on a credit report.
- Bankruptcy erases all your debts. Definitely not true. Some debts cannot be discharged in a bankruptcy filing. They include secured debts like mortgages or car loans, alimony, spousal and child support obligations, court fines, claims arising from an assault, or student debts, unless you're been out of school for at least seven years (this can be reduced to five years in cases of hardship).
- It doesn't cost anything to go bankrupt. You may think that you shouldn't have to pay to go bankrupt. But bankruptcy trustees don't work for free. Usually, they get paid from the money that's freed up from the liquidation of the bankrupt's assets. Their fees come to about $1,500. You're also required to attend counselling sessions at an additional cost. In cases where the bankrupt has no assets to liquidate, the trustee will require his or her client to pay over time (as little as $200 a month). And until you are discharged, a portion of earnings above a certain level (what's called surplus income) must be turned over to the trustee for distribution to creditors.
- I'll never be able to get credit again if I file for bankruptcy. As mentioned earlier, a bankruptcy notation will remain on a credit file for at least six years after the discharge. During that time, every creditor will be able to see the bankruptcy notation. After those six years have expired, there will be nothing on the file to show a bankruptcy. Even during that six-year period, people can take steps to rebuild their credit ratings. "You will be able to get a secured credit card and a car loan shortly after you are discharged," says Earl Sands, a Vancouver-based trustee in bankruptcy. "Provided you meet the income tests, a year after your discharge you should be able to qualify for most loans." Many lenders specialize in clients who've had a less-than-stellar credit history.
- Filing for bankruptcy will destroy my spouse's credit rating. A consumer bankruptcy filing is personal to the individual filing it. As long as your spouse didn't guarantee or co-sign for your credit cards or loans, his or her credit rating will not be affected by your filing. Creditors cannot go after your spouse for debts that are in your name. The flip side of this is that a bankruptcy filing only results in the filer having their debts discharged. The spouse's debts must still be paid.
- Filing for bankruptcy is no big deal. Make no mistake — bankruptcy is a last resort and even bankruptcy trustees acknowledge that. During the nine- to 21-month-period it takes to complete a bankruptcy and have your debts discharged, you will have to hand over total control of your finances to a bankruptcy trustee. You will have to surrender all your credit cards. You will have to report your household income and living expenses to the trustee every month and send along copies of your pay stubs. If you borrow more than $1,000, you must tell the creditor that you are an undischarged bankrupt. If you fail to do this, you can be fined and even jailed. You will also have to take two credit counselling sessions. Nothing impossible, to be sure. But bankruptcy is definitely not something to be trifled with.
In the end, if you're told that the best solution to your financial woes is a bankruptcy filing, don't despair. Bankruptcy laws were set up to allow people in dire straits to wipe their slates clean and start fresh.
Debt management expert Gail Vaz-Oxlade acknowledges that the decision to file for bankruptcy is not an easy one. "But if that's what it'll take to get you out of hell, then do it," she writes in her best-selling book, Debt-Free Forever.
"It won't be easy to live through. And the black mark will stay with you for a long time. But there is an end and you can have a life — a good life — after bankruptcy."
Alternatives to bankruptcy
Debt consolidation loan
- Consolidation loans are used to pay off a variety of high interest rate consumer debts (like credit cards), resulting in a lower overall monthly payment.
- Available at banks, credit unions and finance companies. Interest rates will be higher than regular bank loans but lower than credit card rates. Be sure to ask if there are fees and other charges.
- Consolidation loans can only include unsecured debt, so mortgages and car loans can't be included.
- Credit rating will not be hurt as long as regular payments are made and you don't go out and rack up a lot of new debt.
- People frequently use Home Equity Lines of Credit to pay off high-interest rate debt like credit cards since HELOC interest rates are much lower and repayment terms can be interest only.
Debt Management Plan (DMP)
- Credit counselling agencies contact creditors and negotiate a DMP to fully repay your unsecured debts over a period of up to five years. You make one monthly payment to the agency and it distributes payments to your creditors. They may be able to negotiate lower interest rates going forward.
- Agencies cannot force all creditors to accept a DMP.
- Unlike a bankruptcy, DMPs will not discharge your debts — you will usually be repaying your creditors in full, over time. But agencies can often negotiate a lower interest rate going forward. (In a few provinces, like Alberta, debt repayment agencies are able to negotiate with creditors so the debtor is able to pay back a portion of the amount owed. Fees are regulated).
- Once a DMP is in place, the creditors who agree to the plan will stop phoning you. Those who haven't agreed can continue to take action to collect.
- The presence of a DMP will be noted in the credit report.
- Credit counsellors charge fees to arrange a DMP. These depend on the debt load and the number of creditors.
- Fees for DMPs are not regulated in most provinces.
- In Alberta, Saskatchewan, P.E.I. and Nova Scotia, the Orderly Payment of Debts program (sometimes called a consolidation order) is a court-ordered process that consolidates a consumer's debts and arranges payments to creditors. All creditors are required to accept OPD orders.
- Non-profit credit counselling agencies that arrange DMPs are often funded by banks and credit card companies.
- A consumer proposal filing is done by a trustee in bankruptcy.
- The trustee makes an offer to the creditors to accept a portion of the amount of unsecured debt (i.e. excluding mortgages and car loans).
- Trustee submits a proposal to the creditors.
- If creditors who are owed a majority of the debt agree, the proposal will be binding on all unsecured creditors.
- Once the proposal is accepted, all unsecured creditors are required to stop collection efforts.
- Proposals can last up to five years, but three-year plans are generally more successful.
- Unlike a bankruptcy filing, your assets will not be liquidated but the presence of the proposal will be noted in the credit report.
- Fees are regulated by government.