Should Bankruptcy Be One of Your New Year’s Resolutions?

03 Jan Should Bankruptcy Be One of Your New Year’s Resolutions?

New Year's Resolution

New Year's Resolution

No one wants to file bankruptcy. No one does it for fun. It’s like going to the dentist (or proctologist, or urologist–take your pick). You do it only because you need to, and it will improve your life in the long run. So how do you know when the time has come? Here are some benchmarks for individuals (as opposed to businesses) who are wondering whether they need to file bankruptcy this year, to ensure their financial health for the future:

Have you been thinking about filing bankruptcy since this time last year? Have you discussed it with your spouse, or other family members? Have friends or family members, or your lawyer or accountant suggested that you need to consider bankruptcy? If you have financial issues that remain unresolved over a long period of time, that’s a pretty good indication that you should be considering bankruptcy. Let’s face it–if you are still struggling with debt after trying to deal with it on your own for more than a year, you may not be able to solve it by yourself. That applies whether you have been paying minimum payments only (without reducing your overall debt), or borrowing from Peter to pay Paul, or whether you have been in default for some time.

One of the benchmarks I use in advising clients is to consider whether, with discipline and a little luck, they could pay off most or all of their debt over a period of five to seven years. If not, I consider them good candidates for bankruptcy, for several reasons. First, it is difficult for anyone to go through any given five-to-seven-year period without significant changes in financial situation–an illness, job change, the birth of a child, or a child starting college, retirement–the list goes on. Some changes are positive, like a raise or a promotion, but many of those positive changes also come with increased responsibilities as well. Second, a debt payment plan in Chapter 13 generally lasts five years, so while a Chapter 13 is a bankruptcy, it gives many people the opportunity to be debt free in five years or less. Third, most people find that the effects of bankruptcy on credit scores fade within that time frame (although they can last longer). In short, if you can’t get your debt paid in five to seven years, it is unlikely you can do it at all, and it serves no useful purpose to prolong the inevitable.

Another benchmark to consider is whether you are headed toward one of those life-changing events, and you are barely making ends meet as you are. Let’s say you are making more than the minimum payments on your credit card accounts, but you’re still using the credit cards for emergencies, and you are a couple years away from retirement, or sending your kid to college, or any of a dozen things that will upset your financial applecart. If you are staring down the tunnel of your financial future, and the light you see is the train coming at you, it is probably time to consider bankruptcy.

The most important indicator, however, is the simplest: Do you have any savings? If you have so much of your income going toward debt service that you can’t save for unexpected expenses, that should be a red flag. Actually, a red flag with bells on. And flashing lights. I’m talking here about ordinary savings, too–not just retirement savings, like a 401k. You need some savings for ordinary, everyday emergencies, like a hospital bill, or tires for your car, or your deductible if you’re in a fender-bender. If you don’t have savings for ordinary emergencies (much less big emergencies like a serious illness, or a layoff), you are in an inevitable downward spiral, because those expenses are inevitable. I can’t tell you what the next thing will be–that’s why they’re called unexpected–but I can guarantee there will be something (like the “known unknowns a former vice-president spoke of). We all have them–a car breaks down, a child is ill, your furnace needs repair, or the roof springs a leak. Sometimes several of them happen at once. If you are accustomed to using credit to deal with such unexpected expenses, you are in a downward spiral. Eventually, you will use that credit card one too many times, and you won’t be able to make the payment on time, which will cause you to incur more debt (for fees and interest). Then, the next emergency comes up, and you still haven’t been able to save anything, but this time you can’t use the credit card because you’re over your limit (or they’ve reduced your available credit because your payment was late). So, you’ll have to pay the unexpected expense out of cash, which means you can’t make another payment, and the downward spiral continues. If you have so much of your income going to debt service that you can’t save for emergencies, you aren’t just a good candidate for bankruptcy, you need help dealing with your existing situation, as well as planning for a better financial future, and changing your financial habits.

The New Year is a great time to start making those changes.

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