Does Chapter 13 Bankruptcy Ruin Your Credit?

Like any other bankruptcy filing, Chapter 13 affects credit. However, after Chapter 13, credit scores often rebound more quickly than if you'd filed for Chapter 7, partly because filers repay creditors through a Chapter 13 plan. Find out more about why paying creditors in Chapter 13 bankruptcy can hasten financial recovery.

Filing Chapter 13 Bankruptcy and Your Credit Score

If you're considering filing a bankruptcy case, you've likely struggled with your debt for some time, and it has already impacted your credit score. In such cases, bankruptcy is unlikely to reduce your score much more. However, if your credit score is higher when you decide to file, a bankruptcy filing will have a greater impact.

Example. Suppose you've had trouble keeping up with payments for some time, and your credit score has dropped to 550 (which is considered poor). When you file for bankruptcy, your score isn't likely to fall much further. For instance, a higher score, like 650 (considered fair), would probably drop to around 550.

Initially, it also makes little difference whether you file Chapter 13 or Chapter 7 bankruptcy, although the effect is hard to know because the companies that produce credit scores don't release their formulas. Choosing a Chapter 13 over a Chapter 7 bankruptcy won't benefit you much if you're trying to preserve your credit score in the short term, but usually doesn't affect credit as dramatically over time.

Why Credit Improves Faster After Chapter 13 Than Chapter 7 Bankruptcy

Although filing a Chapter 13 case might not directly help your credit score, it can get you on the financial recovery road more quickly than filing for Chapter 7 bankruptcy. Here's why.

In general, negative information, like late payments, charge-offs, and judgments, can stay on your credit report for up to seven years. A Chapter 13 case will also remain on your credit report for up to seven years, but the time starts when you file your case.

Depending on the length of your plan, the Chapter 13 notation will drop from your credit reports two to four years after receiving your discharge—a significant improvement over a Chapter 7 bankruptcy, which the credit bureaus can report for up to ten years.

Why Paying Creditors in Chapter 13 Affects Credit Scores

In a Chapter 13 case, you'll make monthly payments to creditors for three to five years. The trustee will disperse the funds to creditors that file valid proof of claims. Because Chapter 13 bankruptcy offers some hope that the lender will receive payment, future creditors often see it as more desirable and having less impact on your credit.

By contrast, credit recovers more slowly after Chapter 7 because it doesn't require you to propose a repayment plan and pay creditors. Instead, you'll surrender any "nonexempt property" you can't protect under your state's exemption laws to a Chapter 7 trustee assigned by the bankruptcy court who will sell the property and use the proceeds to pay your creditors. Because most people who file a Chapter 7 can keep everything they own, there often isn't anything left to repay debt.

Obtaining Credit During and After Bankruptcy

In a Chapter 13 case, you're generally prohibited from taking on any new credit. That can make life difficult if a major appliance breaks down or you need to replace your car while making payments on a three- to five-year plan.

The bankruptcy courts recognize that issues like this can derail your best efforts to make your Chapter 13 payments and that new credit can make the difference between a successful plan and the dismissal of the case. Should you find yourself needing to take on new debt, your bankruptcy attorney can help you locate a lender willing to work with a Chapter 13 debtor, as well as file a court motion asking for permission to take on the obligation.

After your bankruptcy case ends and you receive your discharge (the order that wipes out qualifying debt balances), finding credit isn't impossible. But you should expect to pay more in interest charges for the first few years. If you handle that credit responsibly, don't take on more than you can pay, and make timely payments, your credit score and interest rates will steadily improve.

Checking Credit Report Accuracy After Chapter 13

Even if your credit score has dropped after your bankruptcy case, it's a good idea to review major credit bureau reports. Review your reports carefully. Each of your debts should reflect "included in bankruptcy." Otherwise, lenders can assume that the debt wasn't discharged and remains unpaid, which can have an ongoing negative impact on your creditworthiness. The creditor might also believe they have the right to collect the outstanding balance.

Need More Bankruptcy Help?

Did you know Nolo has made the law easy for over fifty years? It's true, and we want to ensure you find what you need. Below you'll find more articles explaining how bankruptcy works. And don't forget that our bankruptcy homepage is the best place to start if you have other questions!

We wholeheartedly encourage research and learning, but online articles can't address all bankruptcy issues or the facts of your case. The best way to protect your assets in bankruptcy is by hiring a local bankruptcy lawyer.