Is Chapter 13 Bankruptcy Better for My Credit Than Chapter 7? (2024)

People with a lot of debt sometimes don't even consider filing for bankruptcy because they think it will permanently wreck their credit, preventing them from getting credit in the future. But filing for bankruptcy might be a good option if you have a lot of debt, and it won't ruin your credit forever.

Although both Chapter 7 bankruptcy and Chapter 13 bankruptcy have the same effect on your credit scores, a particular creditor reviewing your report to decide whether to lend you money could view one chapter more favorably than the other: A creditor might be more willing to lend to you if you filed for Chapter 13 rather than Chapter 7.

Bankruptcy and Your Credit

Your credit reports are important if you want to borrow money. The potential lender will review one or more of your reports or your credit scores (your scores are based on the reports) to determine if lending to you would be risky. Those with good credit are a low risk and are more likely to get loans with good terms. Those with poor credit are high risk and might have more difficulty.

Lenders look at your credit scores and your overall credit history when deciding whether to lend to you. Your credit scores are based on a multitude of factors, including the amount of available credit you have, the ratio of your balances due to your credit limits (called your "credit utilization ratio"), your total amount of debt, and any bankruptcies you have on record.

How Long Does Bankruptcy Stay on Your Credit Report?

The federal Fair Credit Reporting Act says that bankruptcies can't be reported for more than ten years. Because a Chapter 13 bankruptcy involves repaying at least some debt, this kind of bankruptcy remains on your credit reports for up to seven years. A Chapter 7 bankruptcy, however, usually stays on your reports for the full ten-year period, beginning on the filing date.

What Is the Impact of Bankruptcy on Credit Scores?

How much your credit scores will drop after you file for bankruptcy depends primarily on how good your credit was before you filed.

• If you're behind on a lot of payments. If you're behind on many of your payments, like a mortgage and car loan, and your credit utilization ratio is high, your credit scores are already bad. So, after you file for bankruptcy, your scores will fall a bit, but not a lot.
• If you're up to date on all or most of your payments. On the other hand, if you were up to date on your accounts before filing for bankruptcy, then your scores would fall much more. FICO (the most widely used credit scoring company) says you should expect a significant drop in your credit scores if you file for bankruptcy in this scenario. For example, FICO says if you start with a credit score of 780 and file for bankruptcy, you'll lose 220 to 240 points. However, if you have a score of 680, you'll lose 130 to 150 points.

Chapter 7 and Chapter 13 bankruptcy both affect your credit scores the same. Having a Chapter 13 bankruptcy on your credit reports isn't any better for your score than a Chapter 7. However, the individual reviewing your credit might look at more than just your credit score.

How Lenders View Chapter 7 and Chapter 13 (Beyond the Score)

A Chapter 13 bankruptcy involves repaying some or all of your debt over a three- to five-year period, while a Chapter 7 bankruptcy involves wiping out most of your debts without paying them back. Both Chapter 7 and Chapter 13 theoretically leave you in a good position to take on new debt, as they both free you from the burden of old debts and give you a fresh start.

Why Chapter 13 Bankruptcy Might Be Better

If you have a Chapter 13 bankruptcy on your credit reports, a lender looking at your credit might see it as a responsible way to handle your debt, because you made a good faith effort to repay your debts despite your financial hardship. Because a Chapter 13 bankruptcy offers some hope that lenders will receive payment, future creditors sometimes consider it more desirable or as having less impact on your credit. So, a Chapter 13 could be better for you than a Chapter 7.

Why Chapter 7 Bankruptcy Might Be Better

But some attorneys think a Chapter 7 bankruptcy is more beneficial because you can more quickly get a discharge than you can with a Chapter 13 bankruptcy. Then, you'll have more disposable income allowing you to keep up with the payments you still have and get new credit, so you can immediately start rebuilding your credit.

Chapter 13 and Chapter 7 Bankruptcies Have Pros and Cons

Other lawyers say there isn't really much of a difference between a Chapter 7 bankruptcy and Chapter 13 bankruptcy when it comes to your credit because, again, both types of bankruptcy affect your credit scores in the same way.

Each type of bankruptcy has pros and cons. Again, many people prefer a Chapter 7 bankruptcy because it is relatively quick. But you might not qualify. Also, a Chapter 13 bankruptcy could have some benefits for you that a Chapter 7 doesn't, like if you're behind in your mortgage or car payments, you can make up the overdue amounts over time.

Whether and when you can get new loans or credit after bankruptcy generally depends on what kind of credit you're seeking, as well as what type of bankruptcy you filed, in some cases.

How to Rebuild Your Credit After Bankruptcy

While filing for bankruptcy initially hurts your credit scores, it might help you rebuild your credit over the long term. By dealing with your debts through bankruptcy, you get a chance to start over.

Regardless of which type of bankruptcy you file, you need to establish a positive credit reporting history afterward to rebuild your credit. You'll need to budget properly, maintain a low credit utilization ratio, and make timely debt payments in the future.

Getting Help

Credit scores are only one factor to consider if you're thinking about filing for bankruptcy. If you need help balancing the pros and cons of filing for Chapter 13 or Chapter 7 bankruptcy, consider talking to a bankruptcy attorney.

To learn more about credit scores, credit reports, and what you can do to repair your credit after a bankruptcy, get Nolo's Credit Repair, by Amy Loftsgordon and Cara O'Neill.