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Rachel Surman

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The path to financial recovery can often feel like a daunting journey. If you find yourself navigating bankruptcy, you're certainly not alone. More and more Canadians are reportedly filing for bankruptcy – with the total number of insolvencies in January 2023 33.7% higher than the previous year.

Considering the high cost of living in Canada, these numbers are not shocking. But, its commonality doesn't mitigate how serious of a financial event it is. A bankruptcy can have serious impacts on your credit score, and can hinder your ability to secure credit in the future. That’s why it’s important to understand how long a bankruptcy stays on your credit report and what bankruptcy does to your credit score before filing. But the good news is that a brighter financial future beyond bankruptcy is possible – so let's dive in.

Bankruptcy 101: What you need to know

Bankruptcy is a legal process that allows individuals or businesses unable to meet their financial obligations to seek relief from their debts.

Filing for bankruptcy should be considered a resort when all other debt-relief options have been exhausted. When you declare bankruptcy, a Licensed Insolvency Trustee (LIT) works with you to manage and distribute your assets to your creditors, and you'll be released from most of your unsecured debts. Bankruptcy offers a chance to rebuild but it also comes with inevitable consequences that can impact your financial future.

How do I file for bankruptcy in Canada?

First, you'll meet with a LIT who will evaluate your financial situation. Then, you'll need to complete the necessary paperwork, including a Statement of Affairs, which provides detailed information about your debts, assets, income, and expenses. Once filed, the trustee will notify your creditors, and a Stay of Proceedings will protect you from legal actions, such as wage garnishments and collection calls.

During the bankruptcy process, you may need to go to credit counselling sessions. Bankruptcy typically lasts a minimum of nine months but could last longer depending on your circumstances and if you've previously declared bankruptcy.

When is bankruptcy an option?

Bankruptcy should only be considered once you've explored all other debt management options, such as debt consolidation, credit counselling, or negotiation with creditors. But bankruptcy may be the best option for you if you have:

  • Insurmountable debt: If your debt load has become unmanageable, and you can't see a way to pay it off within a reasonable timeframe

  • Expenses vastly greater than your income: If your monthly expenses consistently exceed your income, making it impossible to cover your debts

  • Creditors after you: If creditors are taking aggressive legal actions against you, bankruptcy can provide relief by halting these proceedings.

What bankruptcy can and can't do for your financial situation

It’s important to recognize that while bankruptcy is a tool that can provide financial relief, it can’t solve all of your financial problems. Here’s what bankruptcy can, and can’t do.

Bankruptcy can:

  • Discharge most unsecured debts, giving you a fresh start

  • Provide immediate protection from creditor actions

  • Usually allow you to keep essential assets, such as your home or vehicle

  • Offer a structured framework for managing and reducing your debt.

Bankruptcy can't:

  • Eliminate all types of debt, including secured debts like mortgages and car loans

  • Erase obligations like child support, alimony, court fines, or certain student loans

  • Guarantee a quick or easy recovery of your credit score

  • Restore a damaged reputation, or relationships strained due to financial difficulties.

Credit score basics

Now, let’s talk about credit scores, and how they are impacted by bankruptcy. Credit scores are a numerical representation of how responsible you are with credit, typically ranging from 300 to 900. Credit scores impact your ability to access credit, interest rates, and your ability to purchase a home. The higher the credit score, the better, as a good credit score means you can access loans with lower rates, better credit card offers, and increased approval chances for mortgages and lines of credit. A lower credit score can lead to higher interest rates, being unqualified for a loan, and potential difficulties securing a house or insurance.

You can also look at your credit score as your financial reputation. Lenders and financial institutions use it to assess your creditworthiness, potentially saving you thousands of dollars through reduced interest payments. Landlords, insurers, and employers may evaluate applicants based on their credit scores.If you're looking to improve your credit score, try these tips:

  • Make timely bill payments: Always pay your bills on time to avoid negative credit marks

  • Watch your credit utilization: Keep credit card balances low relative to your credit limits, demonstrating responsible credit management

  • Have a good mix of credit: Maintain a diverse credit portfolio, including credit cards, installment loans, and mortgages, which can positively impact your score

  • Avoid excessive credit applications: Opening numerous credit accounts in a short period could make lenders wary

  • Regularly review your credit report: Check it for errors and fix them as soon as possible.

Bankruptcy and credit scores – what's the connection?

When you have a bankruptcy on your credit report, which is a summary of your financial history, lenders will consider lending money to you as high-risk. Unfortunately, banks and lenders have the perception that people who've declared bankruptcy in the past may be more likely to default on future loans.

What does bankruptcy do to my credit rating?

In Canada, your credit report has a credit rating. These ratings assess how well you managed payments for each specific account. Canadian credit bureaus (Equifax or TransUnion) assign ratings to every item in your credit history, using a scale ranging from 1 to 9, accompanied by one of four letters denoting the type of credit used: I, O, R, or M.

The credit bureaus continually monitor your credit management behaviours, including payment history. Based on their ongoing evaluations, they assign you a credit rating spanning from R1 (the best rating) to R9 (the poorest rating before bankruptcy).

This credit rating is a gauge for banks and lenders when assessing your creditworthiness, typically influencing their decisions on whether to grant you a credit card or a loan. When you undergo bankruptcy, it results in the poorest credit rating possible, an R9.

What does bankruptcy do to my credit score?

A bankruptcy will severely impact your credit score – and your credit score can drop drastically due to a bankruptcy. The specific credit score drop can vary based on your credit history and the scoring model used by the credit bureau. However, it's not uncommon for bankruptcy to lower credit scores by around 200 points or more. While the impact may diminish over time, rebuilding credit remains challenging as long as the bankruptcy is on your record.

How long will a bankruptcy stay on my credit report?

A first-time bankruptcy typically remains on your credit report for six years from the date of discharge. This does differ slightly in some provinces, as TransUnion will keep a bankruptcy on your credit report for seven years in New Brunswick, Newfoundland and Labrador, Ontario, Prince Edward Island and Quebec.

Declaring bankruptcy on multiple occasions will make these bankruptcies visible on your credit report for 14 years. This rule applies uniformly across all Canadian provinces, regardless of your place of residence.

Is bankruptcy right for me?

As heavy of a financial decision as bankruptcy may be, filing can provide relief from overwhelming debt. So when is filing for bankruptcy a viable option? Let's take a look at some of the factors to consider.

  • Overwhelming debt: If your debt has become unmanageable – especially if your debt-to-income ratio is high

  • No other alternatives: When you've exhausted all other debt-relief options

  • Harassment from creditors: If you're facing relentless creditor calls, legal actions, or wage garnishments, bankruptcy can provide immediate protection through an automatic stay

  • Stagnant financial situation: If you're in a situation where your income isn't expected to improve significantly in the foreseeable future, bankruptcy may offer a fresh start.

Some factors impact the accessibility, and feasibility of filing for bankruptcy, which are:

  • Income: Your income can affect the type of bankruptcy you qualify for and the terms of your repayment plan

  • Type of debt: Some debts, like student loans, may not be discharged through bankruptcy without proving undue hardship

  • Credit counselling: In Canada, you’re required to undergo credit counselling before filing for bankruptcy, which can impact the timing of your filing

  • Bankruptcy costs: Consider the costs associated with filing for bankruptcy, including legal fees and administrative expenses.

If you're considering bankruptcy, you'll need to work with professionals to develop a sound financial plan. Here are some questions to ask a Financial Advisor:

  • Is bankruptcy my only option, or are there alternative solutions worth exploring first?

  • What type of bankruptcy (Chapter 7 or Chapter 13) is more suitable for my situation?

  • How will my income and assets be affected by bankruptcy?

  • What are the costs involved in filing for bankruptcy, and can I afford them?

  • What is the long-term impact of bankruptcy on my credit, and how can I start rebuilding my credit afterward?

  • Are there any specific exemptions or considerations that apply to my case under Canadian bankruptcy law?

  • What steps should I take to ensure a smooth bankruptcy process and minimize any potential complications?

You can work with either a Financial Advisor or an LIT to determine your plan to move forward, but only an LIT can do the filing on your behalf.

Life after bankruptcy

Yes – there is life after bankruptcy. After receiving your bankruptcy discharge, promptly send a copy of your discharge order to the credit bureaus to initiate updates to your credit report. Now, let's look at how you can start gradually rebuilding your credit score.

What can I do to improve my credit once I have been discharged from bankruptcy?

To kick start this journey, consider acquiring a credit builder card or loan. These tools are designed to help individuals with damaged credit histories gradually rebuild their credit. Credit builder cards work like traditional credit cards but typically have lower credit limits and require a security deposit. On the other hand, credit builder loans involve borrowing a small amount of money, which is placed in a savings account and released to you once the loan is repaid.

You can access credit builder cards or loans from reputable financial institutions like KOHO. Start by researching and comparing the terms, interest rates, and fees associated with these options to find the one more suitable for you. Once approved for these products, make a consistent effort to pay your bills on time each month and keep your credit utilization low.

Koho's credit building allows you to access a KOHO line of credit, repay it, and build up your credit history. Or, you can opt for a secured loan and choose an amount to set aside each month, and we'll report the amount as an on-time payment to Equifax. Also, when you download KOHO's app, you can track changes to your credit history to see how your score changes overtime.

The bottom line

In the face of rising financial challenges, it's evident that many Canadians are grappling with heightened economic pressure. While bankruptcy is a significant financial event, with the right financial planning, responsible credit management, and proper guidance, you could find yourself emerging from bankruptcy with a fresh start.

Remember – bankruptcy doesn’t define your financial future indefinitely, and achieving financial wellness again is possible. If you have any questions about KOHO's credit building, contact customer support for 24/7 service by email, phone, or on the app.

Note: KOHO product information and/or features may have been updated since this blog post was published. Please refer to our KOHO Plans page for our most up to date account information!