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Posted by: Rob Cohen
Both have their advantages and disadvantages depending on your financial situation, but which one stays on your credit report longer?
Does Chapter 13 look better to creditors long term as you try to improve your credit score?
The short answer to that last question is, “probably not.”
Read on to learn more about the differences between Chapter 7 and Chapter 13 and how they affect your credit score — both good and bad.
Does “doing the right thing” help credit?
Many clients considering bankruptcy come into a lawyer’s office with a need and desire to “do the right thing,” which translates into making an effort to pay back their debts in a Chapter 13 plan.
They are also concurrently hoping to gain some recognition through a better credit score, or having made the payments versus choosing a “straight” Chapter 7 debt liquidation.
Somewhat ironically, the opposite is true. That is, for purposes of rehabilitating one’s credit score, oftentimes a straight Chapter 7 is the better choice.
How can this be?
Speed is the primary reason.
See also: How Chapter 7 Bankruptcy Works
Critical to Credit Repair: A Bankruptcy Discharge
First, let’s take a look at why both chapters of consumer bankruptcy are critical to credit repair. While a debtor may be concerned that bankruptcy will wreak havoc on their credit score, albeit temporarily, the paths the debtor took up until bankruptcy may have already done enough damage. Put simply, if you’re considering bankruptcy, your credit has likely already taken a hit.
One of the best ways to get back on track financially and work toward rebuilding your credit is to file for bankruptcy, but chapter 13 can last as long as 5 years. It’s difficult to rebuild credit during the chapter 13 process.
Both Chapter 13 and Chapter 7 are bankruptcies, plain and simple, and both are reported as such on your credit report. A completed Chapter 13 plan will stay on your credit report for seven years, while a Chapter 7 bankruptcy discharge will be on your credit report for 10 years.
For purposes of rehabilitating credit, what a new creditor wants to know is whether your bankruptcy is finished. The legal term is “discharged,” but that’s the focus — “is the bankruptcy over with or done?” A typical Chapter 7 case will last for just a few months from start to finish, at which point it’ll be on your credit report once successfully discharged. Meanwhile, a typical Chapter 13 case is in existence for 3 to 5 years, the length of the plan.
It can easily be determined, then, that the sheer length of the Chapter 13 case versus a Chapter 7 case makes Chapter 7 a better choice for purposes of re-establishing credit. Right?
Chapter 7 is Faster — But is It Better?
A Chapter 7 discharge is simply much faster to obtain.
There are other more subtle reasons that Chapter 7 is “better,” as well. For instance, one may only obtain a discharge of debt in Chapter 7 every eight years (the prior law was every six years).
New creditors know this about debtors coming out of Chapter 7. They also know that the amount of debt owed is now $0 or at least substantially reduced, and they know debtors are “minimum payment acclimated,” meaning, debtors know how to make minimum payments on outstanding balances.
However, Chapter 13 also looks good to some debtors. It’s particularly helpful when dealing with foreclosure, as well as mortgage modifications, car payments, and IRS problems. But the biggest problem with Chapter 13 is just how long it takes, and that all disposable income must go toward your payment plan for that set amount of time. With Chapter 7, you’ll pay less for your debts — but you also have to qualify for Chapter 7 in the first place.
The Bank’s Perspective on Chapter 7 or Chapter 13
From a bank’s perspective then, a debtor coming out of Chapter 7 is an easy target for new business, and credit card solicitations abound, post discharge.
So, for credit rehabilitation, the important thing is to obtain a discharge, and that discharge happens to occur much faster in Chapter 7 versus Chapter 13.
If you’re considering bankruptcy, it’s important to know which chapter will most benefit you and your specific financial situation. While you can try to go it alone, obtaining a bankruptcy discharge is much easier — statistically, and anecdotally — with the help of a qualified bankruptcy attorney. Contact National Bankruptcy Forum today to see how we can help.
- Converting from Chapter 7 to Chapter 13 Bankruptcy
- Chapter 7 Bankruptcy: What Every Consumer Needs to Know
- Passing “The Means Test” Can Still Mean Chapter 7 Dismissal
- How Bankruptcy and Debt Solutions Impact Your Credit Score
Rob Cohen, the Managing Partner of Cohen & Cohen P.C., is a bankruptcy attorney that practices in Colorado and Wyoming. He serves as a Chapter 7 Bankruptcy Panel Trustee, and has to date administered over 8,000 Chapter 7 bankruptcy estates. Rob is a Certified Consumer Bankruptcy Specialist, and was nominated for Denver Business Journal’s 40 under 40 in both 2014 and 2016.