Many people closely associate bankruptcies and foreclosures because they are both events of serious consequence that result from financial difficulties and the inability to meet one's financial obligations. However, there is a large difference between bankruptcies and foreclosure. In fact, bankruptcies are a way some people use to avoid foreclosure.
What Is Bankruptcy?
It is a legal process to provide an individual or company with protection from creditors. It can be voluntary and filed by a debtor or involuntary and initiated by a creditor. The court will generally develop a plan to resolve debts, sometimes by diving assets among creditors. There are special courts throughout the U.S., called the United States Bankruptcy Courts, that supervise and litigate such proceedings. For individuals, there are two kinds of personal bankruptcies that are common: chapter 7 and chapter 13.
Chapter 7
Chapter 7 bankruptcy is a liquidation of the debtor's non-exempt property. The debtor's property is collected and sold, and then the proceeds of this sale are distributed to creditors. Once a chapter 7 proceeding is finalized, the debtor is no longer personally liable for the debts discharged by the court's decision. Chapter 7 is the most common type of proceeding for bankruptcies in the United States.
Chapter 13
Chapter 13 bankruptcies are available to adjust the debts of individuals who have a regular income. In many cases, a debtor who does not qualify for chapter 7, for reasons such as exceeding the specified maximum income amount, may resort to chapter 13. Instead of discharging debts as chapter 7 does, chapter 13 discounts the debt and creates a payment plan to allow the debtor to pay creditors.
What Is Foreclosure?
Foreclosure is a legal action that a lender can take if the borrower has not met the terms of the loan agreement. Generally, the lender will claim and sell the mortgaged property to regain the amount that the borrower owes. In short, the end result of foreclosures is that borrowers lose their homes.
Protecting Your Home from Foreclosure
Filing for bankruptcy protection is one way that you may be able to save your home. Any foreclosures must stop as soon as borrowers file for bankruptcies, though this protection may be temporary in some cases. Bankruptcies also protect debtors from the collection actions of other creditors.
For the purposes of saving your home from foreclosure, the best type to file is chapter 13. This will give you the opportunity to catch up on missed mortgage payments over a period of time specified in the payment plan that the court develops. If you miss any of these required payments, however, the lender may recommence foreclosure.
Disadvantages of Bankruptcies
Using bankruptcy to avoid foreclosure is not an ideal option, however, as it has a severely negative impact on your credit score. Bankruptcies can often, in fact, have a more negative impact on credit history than foreclosures do. Additionally, if you fail to meet all the obligations of the court-developed plan, it is still possible to lose your home after you have sought the court's protection.
There is a profound difference between bankruptcy and foreclosure, and all in all, it is in your best interest to explore all other foreclosure avoidance options before resorting to bankruptcy to save your home.