If you are faced with mountains of bills that you cannot pay, you're probably wondering what your options are. Two terms you've probably heard are restructuring and bankruptcy, both of which will help you to reduce or even eliminate your debt. Knowing the difference between the two can help you to decide which option works best for you.
Bankruptcy
Filing for bankruptcy means going to court to have your debts discharged. Personal bankruptcy is filed as either a Chapter 7 bankruptcy or a Chapter 13 bankruptcy.
In Chapter 7 bankruptcy (also known as liquidation bankruptcy), any assets are sold to satisfy some or all of your outstanding debt. The remaining debt is discharged. Chapter 7 bankruptcy typically serves as an option for those who have large unsecured debts, such as credit card debt or payday loans. A Chapter 7 bankruptcy remains part of your credit history for ten years.
In Chapter 13 bankruptcy, also known as reorganization bankruptcy, the court restructures your debts so that some of your debt is repaid over a three to five year period while the remainder is discharged. Large debts such as house or car payments are reorganized to allow you a longer period of time to repay. Chapter 13 bankruptcy stays on your credit report for seven years.
Loan Restructuring
Refinancing your debt through a home equity loan, second mortgage, or other consolidation loan is sometimes referred to as restructuring. Through this type of debt restructuring, you consolidate high-interest accounts into one low-interest loan. These options usually depend upon your assets and credit score--if you do not have a home or other asset to borrow against, you may not qualify for a personal loan unless you possess a high credit score.
Debt Management Plans
Another way to restructure your debt is through a debt management plan: created by credit counselors who work with you to come up with a budget that determines how much you have left (after living expenses) to pay toward your debt. The credit counselor then contacts your debtors and sets up payment arrangements that allow for smaller payments (and, on many occasions, reduced interest and finance charges).
You pay the credit counseling agency a lump sum each month, which the credit counseling agency then pays to your debtors. Debt management plans are usually structured in such a way to allow you to pay down or pay off most of your debt in 36 to 60 months.
Bankruptcy Vs. Restructuring
The biggest difference between bankruptcy and restructuring through a loan or debt management plan is the damage done to your credit score. A bankruptcy will result in plummeting credit scores and a notation on your credit report that remains there from seven to ten years. A loan, on the other hand, will actually improve your credit score as long as you keep up with your payment, and a debt management plan by a reputable credit counseling agency should have no effect on your credit score whatsoever. While some creditors may indicate on your credit report that your account is being serviced by a debt management plan, this notation does not factor in to your credit score.
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