Ideally, if you have just received your discharge after bankruptcy, whether through Chapter 7 or Chapter 13, you are enjoying the benefits of having a fresh start without having to make debt payments. But the world is not a perfect place, and you may find that at some point shortly after your bankruptcy, you may need to obtain a loan.
You may have experienced an illness or injury that has resulted in a large hospital bill. Maybe your old furniture has finally broken down, and you need to replace it. You may need money to pay for major home repairs, such as a new roof.
Regardless of the reason, you may be wondering what effect having a bankruptcy on your credit record will have on your ability to get a personal loan, and what terms you will receive if you do.
In this article, we cover the main factors to consider when seeking personal loans after bankruptcy. Specifically, we cover:
Having a Stone Rose Law bankruptcy law professional to guide you can improve your chances of getting a personal loan after bankruptcy and reduce the possible risks to you when dealing with lenders.
To find out more about our bankruptcy and post-bankruptcy legal services, and to schedule a free consultation with an experienced Arizona bankruptcy lawyer, call our law office at (480) 739-2448, or you can reach us online at any time, day or night, and we will get back to you promptly.
Neither federal law nor Arizona law puts any time restriction on your ability to seek a personal loan after Chapter 7 or Chapter 13. As we will see below, the main limitations on your ability to obtain a loan are practical rather than legal.
So, if you can find a lender that is willing to approve you for a personal loan, there is no set time limit on your ability to get financing. Practically speaking, however, most post-bankruptcy would-be borrowers find it hard to find a lender willing to lend immediately after bankruptcy discharge.
Usually, lenders become more ready to consider you for a loan after one or two years have elapsed after your bankruptcy. This is often the time interval during which your credit rating will begin to improve, and you can demonstrate good money management habits that will inspire greater lender confidence.
The timeline for a Chapter 7 bankruptcy ordinarily runs about four to six months from the filing date of your petition to the day the bankruptcy court discharges your debts and closes your case, with the actual discharge typically entered around the three- to four-month mark.
During this period, most mainstream lenders won’t extend credit to someone with an open bankruptcy, and any debt you take on before discharge isn’t wiped out by your case. As a practical matter, personal loans in a Chapter 7 case are almost always post-discharge.
A Chapter 13 bankruptcy, however, takes from three to five years to complete as you pay creditors through a debt repayment plan. This longer time frame means it is at least technically possible to look for a loan while your Chapter 13 case is still in progress. A classic example is if you need to replace your car and you want to buy a vehicle with an auto loan.
Secured financing under your plan — such as an auto loan — generally requires approval from the Chapter 13 trustee and the court. An unsecured personal loan, however, may be available fairly soon after you file. While your case is active, the amounts tend to be low and the terms unfavorable.
Key considerations will be your ability to demonstrate that you truly need a loan and to make the loan payments without jeopardizing your ability to keep making your monthly payments under the payment plan.
A personal loan may be available during your Chapter 13, but expect a limited pool of lenders, smaller loan amounts, and higher interest rates until your case is complete.
In this article, we focus on factors that go into looking for a personal loan after discharge, no matter whether you have used Chapter 7 or Chapter 13.
Bankruptcy or no, any time you look for a loan, the lender is going to consider factors that bear on how much faith it is willing to put into your ability to repay it on time and in full. A bankruptcy adds more weight to these confidence-building or confidence-corroding considerations.
After your bankruptcy discharge, lenders will scrutinize your overall creditworthiness using the following considerations:
The more time that has passed since your bankruptcy, the better. You can find lenders willing to approve you soon after discharge, but early on, your options are mostly limited to lenders that specialize in bad-credit borrowers, with small loan amounts and high interest rates.
Waiting one to two years post-discharge, combined with responsible credit use in the interim, widens your options and significantly improves both your approval odds and the terms you’re offered.
Lenders want proof that you can afford a new loan payment, so having a steady, sufficient source of income is essential to getting loan approval. Some lenders may require a minimum annual income before considering you.
Showing stable employment and any additional income or savings you may have will help establish that you have the means to repay the loan even after past financial troubles.
Bankruptcy damages your credit. Typically, your credit score will drop by 130–240 points after filing your petition, often putting you into the “poor credit” range.
Lenders will look for signs of credit rebuilding on your part; by improving your credit score through on-time payments and low credit utilization, you can move your credit score into at least the “fair” credit range of around a 580–669 FICO score. This is the point at which many personal loan lenders begin treating you as a qualified applicant for loan approval.
Any new positive credit history — like timely payments on a secured card or installment loan since the bankruptcy — will strengthen your loan application, and any further improvement in your credit score will improve the terms you get offered.
Bankruptcy itself also stays on your credit report for a fixed window — 10 years for Chapter 7 and 7 years for Chapter 13 — but its weight on your score fades steadily as you build a clean post-discharge track record.
Your DTI is the percentage of your monthly income that goes toward debt payments, including rent and mortgage payments. Lenders typically prefer a DTI below 40% to 45%, including the new loan payment.
A lower DTI assures the lender that you are not overextended. Keeping other debts low and having minimal new obligations post-bankruptcy can help maintain a favorable DTI.
Lenders do not always require you to have collateral to secure a personal loan or to have a co-signer. But if you have either or both of these, then this can significantly improve your odds of loan approval because it takes on characteristics of a secured loan:
A lender or a co-signer can make loan approval easier, secure better terms, or both, even after bankruptcy. Just be aware that if you default on the loan, you may lose the collateral, or the co-signer may become fully liable for the debt.
Because, from the lender’s point of view, after a bankruptcy, you represent a higher risk, you should expect a post-bankruptcy personal loan interest rate to be significantly higher than the same lender offers to prime borrowers.
It is common to see annual percentage rates (APRs) for post-bankruptcy loans in the high teens to 20% or more. Many post-bankruptcy borrowers encounter offers with an APR of 18% to 36%.
Also, be aware of possibly high loan fees. A post-bankruptcy personal loan might come with higher origination fees or other charges. Always compare the loan’s APR, which reflects both interest and fees, among any lenders willing to work with you.
Also, remember that as your credit improves, refinancing to a lower rate later is often a good strategy if you must take out a high-interest loan now.
If you are having trouble qualifying for a personal loan shortly after bankruptcy, consider other financing options. Here are some examples.
A secured credit card requires you to put down a cash security deposit, often $200 to $500, as collateral. This deposit usually becomes your credit limit.
The advantages of a secured credit card are easier approval after bankruptcy because your deposit reduces the lender’s risk, and by using it responsibly, it can help rebuild your credit quickly (many consumers see credit score improvements within a year of on-time payments).
Possible drawbacks of using a secured credit card include requiring an upfront deposit, typically having a lower credit limit, and higher interest rates than a regular credit card (although you can avoid interest by paying in full each month).
Secured credit cards can also charge annual fees.
Credit unions and community banks sometimes offer “second chance” small loans to members or customers. A central feature of a credit-builder loan is that the money you are “borrowing” is actually kept in a savings account until you make all the loan payments. You make fixed payments over 6 months to 2 years, then receive the loan funds plus any interest earned at the end.
The key advantage of this kind of loan is that it builds your credit history. Each on-time payment you make gets reported to credit reporting agencies. It also basically forces you to save money.
The main drawback of a credit-builder loan is that it is a delayed-effect loan: you only get access to the loan amount after you have fully repaid it. These loans also carry some interest or fees, so the amount you ultimately receive is usually a bit less than the total of the payments you made.
If no other financing options are available to you, borrowing informally from family or friends is worth considering. Such loans do not require a credit check or formal approval process, can involve little or no interest, and have flexible repayment terms over the loan term, depending on your relationship.
The drawback to borrowing informally from people you know is that it does nothing to rebuild your credit and can strain relationships if you don’t repay as promised; there is something to the saying, “The fastest way to lose a friend is to borrow money from that person.”
Any personal loan lender who lends money as a business does so with the expectation of making a profit. But some lenders can take this motivation to extremes, putting you at a severe disadvantage or even taking advantage of you in ways that are questionable or even unethical.
Here are some ways that you can look out for a “high-risk” lender:
Sometimes you cannot help but need to seek a loan, even if you have just emerged from Chapter 7 or Chapter 13 bankruptcy. If this is your situation, then as a general rule, the more time you put between your bankruptcy discharge and taking out the loan, the better it is for you because time is your ally when it comes to rebuilding your credit.
Other ways to improve your chances of getting the best personal loan terms possible after a bankruptcy include:
At Stone Rose Law, we know how hard it can be to qualify for a loan after bankruptcy. One of our experienced debt relief attorneys can give you practical advice on credit restoration and legal advice before you sign a personal loan to make sure you do not get taken advantage of.
To reach us, call (480) 739-2448 or use our online contact form.
