Bankruptcy May not be Best Choice

Jan 8th, 2008 @ 5:22 AM by MortgageMentor

It’s only been two years since the bankruptcy laws were changed to make it more difficult for people to file. the purpose of the change was to prevent irresponsible borrowing; the habit some had of using credit cards, maxing them out, then filing bankruptcy in order to wipe the debt clean. Prior to the changes, people could simply walk away and start over, leaving credit card companies and other creditors holding the bag. With the changes, would-be bankrupt families are required to obtain credit counseling, and in most cases they must consider filing chapter 13, in which they’re required to settle at least some of the debt, rather than chapter 7 which forces liquidation but wipes the debt clean.

Enter the mortgage crisis. Now homeowners are facing foreclosure and bankruptcy in greater numbers than ever; in fact, bankruptcy filings rose by 40 percent over the past year. A few states allow the family residence to be exempt from bankruptcy proceedings, but in most it is common to sell a house in order to settle the debt.

Congress has toyed with the idea of allowing bankruptcy judges to change the terms of home loans, converting adjustable mortgages to fixed rates. Some people fear that this will have too much effect on the housing market, ultimately causing higher credit requirements and possibly higher interest rates in the overall market.

Some people borrow from their 401k in order to avoid bankruptcy, but there are many good reasons not to do this. The bankruptcy court can force you to pay back lenders, even making you sell your home to do so. But they do not make you pay out of your 401k money. So if you borrow from the 401k, cannot repay the money within 5 years, and end up in bankruptcy court, you’ll be out money you would have had on hand for your retirement.

Before considering bankruptcy or allowing your home to go into foreclosure, talk with your creditors to see if you can make a payment arrangement. You can also visit with a credit counselor to find out your options. It may seem like letting go of your home is the only way out, but for most people the primary residence is one thing that should be held onto.