Advantages and disadvantages of declaring bankruptcy

Before deciding to apply for bankruptcy, it's important to consider the advantages and disadvantages of doing so. Although most debts will be written off, bankrupt individuals will experience substantial problems dealing with financial institutions or obtaining any form of credit.

What are the main consequences of bankruptcy?

The practical implications of bankruptcy include:

  • Most debts are written off
  • Assets need to be relinquished and disposed of by the bankruptcy trustee (often the official receiver, who looks after the assets of the bankrupt and distributes them to creditors)
  • Bank and building society accounts will be frozen and controlled by the trustee
  • During the bankruptcy period, accessing any form of credit is extremely difficult (and there are other restrictions)
  • Credit ratings can be affected for up to six years following a bankruptcy order

What are the advantages of bankruptcy?

Bankruptcy enables a debtor to write off most of their debts. If the level of debt exceeds the total amount of assets held by the debtor (including any equity in their home) and repayment would take many years, bankruptcy may be preferable to other debt repayment options.

Bankrupts are allowed to keep some of their assets which include:

  • Items which they need for their job (eg tools or a vehicle)
  • Household items (eg clothing, bedding and furniture)
  • Money which they urgently need (eg to buy food)
  • Money belonging to a partner which held in a joint account. This is given back to the partner
  • Generally any money which they have put into a pension
  • If a family home (ie where the bankrupt and/or current or former spouse/civil partner reside) has not been sold by the bankruptcy trustee within three years of the date of the bankruptcy order, it may be returned to the bankrupt

What are the disadvantages of bankruptcy?

Bankrupts will lose most of their assets and access to credit for at least a year. Their home may be sold (depending on the amount of equity). Furthermore, during the bankruptcy period, they will face certain restrictions including not being allowed to:

  • Borrow more than £500 without informing the lender of their bankruptcy status
  • Act as a director of a company (unless the court gives permission)
  • Create, manage or promote a company (unless the court gives permission)
  • Manage a business with a different name (unless they inform anyone they do business with that they are bankrupt)
  • Work as an insolvency practitioner

Although most debts will be written off once the bankruptcy has been discharged, monthly payments required as part of an Income Payments Agreement may need to be made for up to three years following bankruptcy (pension payments may be taken into account).

How to decide whether or not to go bankrupt?

Individuals considering bankruptcy should weigh up the pros and cons discussed above before deciding whether to proceed. If there is no prospect of improvement in their financial situations - and if their debts will take many years to repay - bankruptcy may prove to be a sensible option. However, they should first consider alternative ways of dealing with debts.

Potential bankrupts should assess the consequences of bankruptcy upon the full value of their assets - particularly if they own significant equity in their home. Furthermore, certain professions (eg solicitors and accountants) apply restrictions on membership regarding individuals who have been bankrupt, so it is important to check this aspect as well.