Both bankruptcy and foreclosure have a serious negative effect to a credit rating, however one may be worse than the other depending on what type of credit you seek in the future. Review the ramifications of both situations in this article.
There are two common forms of bankruptcy. A Chapter 7 bankruptcy means that debt is released without a pay back plan. Chapter 13 includes a repayment plan to creditors up to specified amounts set forth by a judge. In both cases a judge may also order the person to liquidate personal assets to help satisfy their debt. A foreclosure means that a property was repossessed by the lender who holds the first mortgage lien on the property. When a bank forecloses, they will typically sell it at an auction. The party who lost the property will be responsible to pay back any deficiency between what they owed on the mortgage, plus filing, court and attorney costs and what the property sold for at the auction.
A Chapter 7 bankruptcy will be reported on a credit report and remain there for up to 10 years after the discharge date. A Chapter 7 is discharged quickly since there is no repayment plan, so the discharge occurs once the bankruptcy is approved by a judge. The Chapter 13 may not be discharged for years down the road, since regular payments must be completed first. With this in mind, a Chapter 13 will only remain on a credit report for up to seven years from discharge date. A foreclosure will remain on a credit report for up to seven years from the filing date, which is when legal proceedings were first started.
The effects of a foreclosure are far worse than that of a bankruptcy when applying for a mortgage loan for a new home purchase. The lenders thinking is that the proposed borrower, already having had one foreclosure, carries a likelihood that they may let the same situation occur. Mortgage lenders respect a good mortgage payment history over bad consumer credit or a bankruptcy. Typical guidelines require a foreclosure to be discharged four years, whereas a bankruptcy discharge can be overlooked after only two years. On the other hand, if a borrower were to apply for a credit card or possibly a car loan, never having had a bankruptcy and has a good consumer credit standing, even if a foreclosure is noted, these lenders will be more likely to lend, feeling that the borrower is likely to pay their regular debt based on a good track record.
After a foreclosure, and when forced into an apartment for instance, the most important thing a person can do is to pay their rent on time and retain proof via canceled checks that they have done so. Sometimes with a perfect rental history a lender may loan quicker than a four year period since the foreclosure. The thinking is, have they been diligent in paying for the roof over their head now. Regarding a bankruptcy, it is important to obtain new credit, even if at high interest rates and become an excellent payer. This will show retail lenders that you have changed, learned from the bankruptcy, and are now less of a risk.
Even though a foreclosure is a negative scenario it doesn't mean that you can never buy a home again, but it does mean you will initially experience a higher interest rate and must have a proven track record of good rental history for at least a couple of years to obtain a new mortgage. Bankruptcy, negative as well, doesn't mean you will not receive credit again, but it does mean you have to re-establish yourself over time.