Bankruptcy and Your Credit Score

Social research seems to point to a trend wherein people are reticent to file for bankruptcy or utilize social welfare programs. At the same time, with the emergence of the importance of maintaining a good credit score, this trend continues.

The trend over the last several years has been moving away from social welfare programs and toward credit card and similar debt. Deregulation of credit card companies and the emergence of Lending Club and the like provides (seeming) lifelines to families that are struggling to make ends meet. It needs to be examined whether this is just a gateway toward more bankruptcy filings.

Bankruptcy Statistics

Bankruptcy trends often mirror the health of the economy. Bankruptcy filings soared in the wake of the Great Recession. That number then eased, followed by a surge of bankruptcy filings when economic health improved so risk appetite increased.

Perhaps more interesting is the proportion of business bankruptcy filings. In 1980, business bankruptcy consisted of 13% of all bankruptcy filings; today, business bankruptcy filings consist of 3% of all bankruptcy filings. There are numerous reasons for this trend, though. It seems, that the number may be even lower if not for the stigma people attach to bankruptcy and the emergence of debt settlement.

Social Welfare Programs

It is estimated that a mere 30% of eligible US citizens actually utilize social welfare programs. Social science and statisticians determined that much of this is due to people refusing to take handouts. People will take the second job working nights instead of going to the welfare office every three months.

This wave of refusing government handouts started in 1996, when President Clinton signed legislation limiting public assistance. The new law created Temporary Assistance for Needy Families, or TANF, which replaced Aid to Families with Dependent Children, known as AFDC. AFDC provided perpetual assistance to needy families with cash payments. Now, under TANF, such cash payments are limited to 60 months. Eligibility for TANF requires caretakers to find employment within 24 months of receiving benefits.

The Personal Responsibility and Work Opportunity Act of 1996, which created the TANF assistance regulations, also launched the importance of the credit score. A person’s credit score now became an integral part of all facets of life. Credit scores were no longer just about obtaining a mortgage; a credit score included getting a job.

Credit Scores

Credit scores emerged as a factor to determine a person’s trustworthiness. Businesses want employees that they can trust. A credit score is a way, in the eyes of many employers, to determine trustworthiness.

Many people interviewed for various positions found that they were denied employment just because of their credit score. This situation puts people who are willing and able to work in a difficult situation: They cannot fix their credit scores because they cannot get a job and they cannot get a job because they cannot fix their credit scores. And, as mentioned, utilizing public assistance as a resource to stop the bleeding is not an option for many.

Credit Cards and Unsecured Loans

The Personal Responsibility and Work Opportunity Act of 1996 also introduced deregulation of credit cards. That is, credit cards had more flexibility to lend. This created a further incentive for not using public assistance because utilizing credit cards has no shame attached.

However, this generated an explosion of serious credit card debt. There was clearly a parallel – increasing the importance of a credit score corresponded with the increase of credit card debt.

Another possible lifeline emerged in unsecured loans. Lending Club and the like advertises that they can provide you with a lower rate and fast money. For those struggling and refusing public assistance, this provided an additional lifeline. However, as the new loan was on record and the credit line from the credit card replenished, the cycle continues to get worse. At the same time, public assistance takers have only grown moderately in numbers.

Debt Settlement

Debt settlement is another avenue debtors can take, though it also plays with the credit score. Debt settlement usually requires that a party default on a loan, followed by a negotiation to repay the loan on different terms. This also causes a credit score to fall.

Bankruptcy

Does all this lead to an increase in consumer bankruptcy filings? The above information makes it unclear. On the one hand, bankruptcy, though useful, hurts a credit score significantly and may hamper one’s ability to obtain employment. On the other hand, it may just be the only choice. Is there less of a stigma than public assistance? Is there meaningful choice? Is it better to live in a homeless shelter? People will be asking themselves these questions.

In debt? Bankruptcy may be right for you. Contact Melanie Tavare, a Bay-area debt relief lawyer.