Realizing that you cannot afford your mortgage payments is frightening. If you're weighing your options, both foreclosure and bankruptcy are probably looming large in your thoughts. However, bankruptcy and foreclosure are not synonymous, and sometimes, despite the negative connotations, one or the other can be a financial lifesaver.
Not Synonymous
While bankruptcy and foreclosure sometimes come one after the other, the two are not synonymous, nor does one necessarily result in the other.
Foreclosure results from the inability to pay your mortgage. When you stop making payments, the lender repossesses the home. Often, the lender will take legal action against you to collect what is owed on the mortgage.
Bankruptcy, on the other hand, results from an inability to pay a number of debts, not just a mortgage. In Chapter 7 bankruptcy, all debts are discharged, and any assets you may have are sold to repay your creditors. In Chapter 13 bankruptcy, your debts are restructured, giving you three to five years to come to a financial settlement with your lenders. Secured debts, such as mortgages and car loans, may be adjusted to give you further time to pay.
Not the Only Options
If you're struggling to make your mortgage payment, figuring out why is the first step to weighing your options.
If you are unable to pay any of your bills due to loss of employment or other financial catastrophe, your options are very different from the person who got behind on his mortgage but now has the ability to pay, or has found himself underwater, owing more on his home than the home is worth.
If you have some income to pay toward your home, it's a good idea to talk to your lender about mortgage modification options. Mortgage modification may allow you to pay the interest only, pay a reduced payment or otherwise make a payment arrangement that will allow you to keep your home until you are more financially stable.
Bankruptcy to Avoid Foreclosure
If overwhelming debts are making it impossible to make your mortgage payment, bankruptcy may allow you to discharge or reorganize other debts in order to make your mortgage affordable, but it's a risky proposition.
While bankruptcy can stave off foreclosure for a period of time, it's only a good idea if you can actually make the mortgage payment after the bankruptcy is discharged.
Chapter 7 bankruptcy can erase non-secured debt like credit card debt or medical bills that are hindering your ability to pay your mortgage. However, if you have property you do not want to lose, such as cars or even family heirlooms, Chapter 7 may not be the best option for you. Furthermore, income restrictions may disqualify you from Chapter 7 filing.
Chapter 13 can help you reorganize debts, including mortgage debt, to allow you to repay some or all of your creditors some or all of what you owe, but filing Chapter 13 is an expensive proposition, costing several thousand dollars in legal fees, and requires that you to pay back some debt.
A Difficult Decision
Choosing between bankruptcy and foreclosure is never an easy decision because both result in a serious financial setback. If you've lost your job and cannot afford your mortgage or other debts, filing bankruptcy may give you a clean financial slate, but it comes at a price -- bankruptcy is devastating to your credit score and can make getting credit, getting a job and finding a home difficult for the term that a bankruptcy stays on your credit report, up to 10 years. Foreclosure takes a lesser toll on your credit than bankruptcy, and as long as you can stay current on other bills, you can rebuild your credit in few years.
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