Understanding Bankruptcy vs Default: A Comprehensive Guide
Navigating the world of finance can be tricky, especially when dealing with debt. It’s common for many individuals to struggle with understanding the differences between bankruptcy and default. This article seeks to clear the fog by providing an in-depth understanding of these terms, their implications, and the best approach to handle each scenario.
Defining Default: More Than Just Missing a Payment
Default, in the context of finance, is more than just missing a loan payment. It signifies a failure to fulfill a financial obligation. This could include consistently paying late, skipping payments entirely, or stopping payments on a loan. Both individuals and businesses can default on their loans. For instance, a person who stops making payments on their credit card debt has defaulted. Similarly, a business that repeatedly fails to make loan payments is also in default.
Default isn’t limited to any specific type of debt. It can occur in various scenarios like:
- Educational Loans;
- Home Loans;
- Business Loans;
- Vehicle Loans.
Typically, default happens when a borrower’s income isn’t sufficient to cover their loan repayments. For instance, someone who takes out a substantial loan for medical expenses might struggle to make the high payments due to inadequate income. Default is particularly prevalent among student loan borrowers.
Bankruptcy: A Last Resort for Overwhelming Debt
To comprehend the term bankruptcy, it’s important to understand its prerequisites. To qualify for bankruptcy, the individual must:
- Be a Canadian resident;
- Be unable to meet financial obligations as they come due; and
- Have debts exceeding $1,000.
Bankruptcy is typically a final option for individuals grappling with overwhelming debt. While one can default on a loan without necessarily declaring bankruptcy, most people who end up declaring bankruptcy have already defaulted on several loans.
Declaring bankruptcy can have severe implications on your credit score initially and will remain on your credit report for a considerable period. However, bankruptcy is not a stigma – sometimes, it’s a necessity. It might be a consideration if you’re:
- Consistently failing to meet debt obligations;
- Relying on borrowed money to pay bills;
- Dependent on credit;
- Receiving incessant debt collection calls and letters;
- Feeling overwhelmed by debt to the extent of it affecting your health;
- Unable to secure more debt from your bank due to your current debt size.
Weighing the Pros and Cons of Bankruptcy
Declaring bankruptcy isn’t a decision to be taken lightly. It’s crucial to weigh the advantages and disadvantages before making such a decision.
Advantages:
- Most, if not all, of your debt will be forgiven;
- You’ll stop receiving debt collection calls;
- You’ll experience a sense of relief;
- It offers you a fresh start.
Disadvantages:
- It will severely impact your credit score, and the bankruptcy record will remain on your credit report for at least 6 years;
- You’ll have to surrender most of your assets to your creditors;
- Your bankruptcy will be a matter of public record.
The Bankruptcy Process: What To Expect
If you choose to file for bankruptcy, Innovation, Science and Economic Development Canada will assign you a Licensed Insolvency Trustee (LIT). They can discuss your options before you file for bankruptcy and guide you through the bankruptcy process.
Upon deciding to file for bankruptcy, the LIT will assist you in filling out necessary forms. Once Form DC905, Bankruptcy Identification Form is submitted to the Office of the Superintendent of Bankruptcy Canada, you’ll be officially recognized as bankrupt.
After declaring bankruptcy, the trustee will inform your creditors and assume responsibility for your assets. Your assets, like your car, house, expensive jewelry, or stock investments, will be liquidated and distributed amongst your creditors. However, certain assets like your Registered Retirement Savings Plan (RRSP) are exempt from being seized in bankruptcy.
Discharge from Bankruptcy
Generally, a bankrupt individual can expect to be discharged from bankruptcy in nine months. However, in some cases, an automatic discharge might not occur. In such cases, a trustee may recommend presenting a case in court for discharge. A bankruptcy court can grant an absolute or conditional discharge, suspend, or refuse your discharge.
Bankruptcy vs Default: The Final Verdict
There’s a marked difference between bankruptcy and default. While defaulting on a loan doesn’t always result in bankruptcy, bankruptcy often follows multiple defaults. If you’re struggling with debt, consider a consumer proposal or consult with a credit counselor.
