Which Is Better: Foreclosure or Bankruptcy?

Deciding between foreclosure and bankruptcy is a deeply personal decision that you should make only after consulting with a nonprofit credit counselor as well as real estate and bankruptcy attorneys. Every situation is potentially different, with foreclosure best for one person and bankruptcy better for another. Generally, foreclosure is the better option if the mortgage debt is your only financial issue and you are comfortable with losing your home to eliminate the debt. Bankruptcy may be better if you have a host of financial problems and you would like to sort them out while avoiding foreclosure through bankruptcy.

Impact on Credit

Foreclosure and bankruptcy are both negative credit events, but foreclosure is better for your credit than bankruptcy. Foreclosure information remains on your credit report for seven years, while bankruptcy information remains for a minimum of 10 years. Bankruptcy information is reported when you file for bankruptcy and when the bankruptcy is completed. Chapter 13, one of most popular forms of bankruptcy, requires a payment plan of three to five years. That means a Chapter 13 bankruptcy could be listed on your credit for 15 years, starting with the date you file, then through up to five years of payments and 10 additional years following the conclusion of the payment plan and discharge.

The Automatic Stay

For some people, bankruptcy is better than foreclosure because it possibly allows you to keep your home. Bankruptcy provides a provision called an "automatic stay" that delays or stops foreclosure. An automatic stay is a court order signed by a bankruptcy judge; it can prevent foreclosure if you file early enough in the foreclosure process. A scheduled foreclosure sale of your property typically will be postponed for a period of three or four months if you file for bankruptcy. Theoretically the delay gives you time to reorganize your finances with the bankruptcy court and avoid losing your home. The automatic stay also ends collection efforts on all other debts while your bankruptcy petition is evaluated.

Voluntary Foreclosure

Some people choose voluntary foreclosure as a debt management strategy. They consider foreclosure better than bankruptcy because it allows them to default on just one account --- their mortgage --- instead of having to list all of their debts in a bankruptcy filing. Opting for foreclosure allows them to avoid the greater stigma of bankruptcy while allowing them to escape from a home they no longer want or can afford. A voluntary foreclosure takes place when a person purposely stops making mortgage payments and allows the house to be foreclosed.

Alternatives

Nonprofit credit counselors such as those affiliated with Consumer Credit Counseling Service can offer alternatives to foreclosure and bankruptcy. Credit counselors specialize in foreclosure avoidance and can contact lenders directly to work out solutions for keeping your home. Options include forbearance, which allows your lender to tack missed payments onto the end of your mortgage, or loan modification, which allows for your loan to be completely rewritten to make it more affordable. If overall debt is a problem, counseling agencies can offer debt management plans as an alternative to bankruptcy. Debt management allows the counseling agency to manage your debts over about a five-year period. The agency charges a monthly management fee for negotiating with your creditors for better terms and smaller monthly payments, among other considerations.