If you’re an individual in dire financial straits and no longer have the funds to pay off your debts, you can declare yourself bankrupt.
Bankruptcy is one way to clear debts (for most people, it’s the most well-known form of financial legal proceedings). But it’s not necessarily the best thing for everyone.
Declaring bankruptcy can have serious negative consequences, not just in the short term but in the long term too. There are other viable alternatives to bankruptcy, which many people simply don’t know about. These include administration orders, debt consolidation plans, and individual voluntary arrangements.
Always seek expert financial advice from an insolvency practitioner before you decide to declare bankruptcy, because these alternatives might be a more effective option.
Here’s our guide to the best alternatives to bankruptcy.
What Is Bankruptcy?
Bankruptcy is a legal process that can be carried out by an individual, or instigated by a creditor who is owed money by an individual. The process has to be taken through court, so it can have serious financial and legal consequences for the individual concerned.
Bankruptcy can be declared by an individual who owes more money than they’re able to pay back. If your debts are more than your income and assets, then you can file for bankruptcy.
How Do I File for Bankruptcy?
If you owe more money than you are able to pay, you can apply for bankruptcy online. Each case is judged on an individual basis by an adjudicator. The cost to the person applying for bankruptcy is currently £680, which means you must be able to afford to declare yourself bankrupt! The process can’t be completed until full payment has been received.
Once payment has been received and your application for bankruptcy has been reviewed, you will be declared bankrupt by court order. Before you do this, it’s important to weigh up all the options available to you, because once proceedings are in progress they’re difficult to stop.
If you owe money to creditors and haven’t been able to pay them back, your creditors are also able to file for bankruptcy on your behalf. They can do this with or without your permission.
For creditors to do this, you must owe them a minimum of £5,000. Creditors can force bankruptcy upon an individual owing them a large sum of money in order to try and reclaim money owed to them. Once bankruptcy has been applied for, the proceedings are essentially the same in either case.
Bankruptcy Is Not Insolvency
Bankruptcy is a legal process that’s often misunderstood in the UK, not least because it has different connotations and legal definitions in different parts of the world (particularly the US).
Contrary to popular opinion, in the UK only individuals can be declared bankrupt. Businesses and corporations can’t be declared bankrupt (confusion often arises, because in the US businesses can file for bankruptcy).
Instead, businesses are declared insolvent. It’s a similar concept because insolvency is the state whereby a business or individual is unable to pay their debts. An individual who has become insolvent and can’t pay their debts will then file for bankruptcy in the courts.
Positives of Declaring Bankruptcy
There are many reasons to declare bankruptcy, and filing for bankruptcy has some major advantages for individuals. The key thing to remember is that bankruptcy isn’t the only option available to individuals in financial difficulty, as you’ll see when we discuss the viable alternatives.
Here are the positives associated with declaring bankruptcy:
- Bankruptcy lasts one year, but after this you’re often seen as having a fresh start.
- You’ll no longer be harassed by people you owe money to.
- You are protected from your creditors by the courts.
- Your major debts will be cleared, and you’ll be able to keep much of your income.
Negatives of Declaring Bankruptcy
Bankruptcy will wipe out much of your debt, so many people simply declare bankruptcy without considering the alternatives in too much detail. But not all types of debt can be cleared.
In fact, in many cases the negatives of declaring bankruptcy outweigh the positives. This is yet another reason to speak to a professional before declaring bankruptcy, so you can look at the financial picture from all angles and make an informed decision.
Here are the negatives to consider before declaring bankruptcy:
- You need money (£680) to file for bankruptcy.
- Debt repayments are income-dependent (they aren’t just wiped out, as many people think).
- Not all debts can be cancelled (student loans, welfare payments, etc. still need to be paid).
- If you’re a homeowner, you might lose your home. If you rent, a landlord might be able to kick you out of the property.
- Personal possessions and assets can be sold to repay debts.
- Your credit rating is negatively affected.
- Bankruptcy is declared publicly, and for many professions it can lead to dismissal (lawyers, for example).
- You could lose your business if you own one.
There are other negatives too, depending on your personal circumstances. Luckily, there are alternatives to bankruptcy which should always be considered first. Only ever use bankruptcy as a last resort, particularly if you’re a professional or homeowner.
What Are the Alternatives to Bankruptcy?
Taking a look at the alternatives to bankruptcy will give a good idea of what else you can do to improve your financial situation. For many, these solutions will be a much better alternative.
The 3 major alternatives to bankruptcy are:
- Administration order
- Debt consolidation
- IVA (individual voluntary agreement).
Bankruptcy vs. Administration Order
An administration order is a legal order issued by the courts that provides you with a way out of your debt by paying back monthly stipends for an agreed period of time.
Administration orders are only issued if you owe less than £5,000. Essentially, if you only owe a small amount of money to a creditor, an administration order is a way for you to start paying back those debts without being forced into bankruptcy.
For small debtors, this is the best alternative to bankruptcy. You’ll no longer be dealing with your creditors, as all financial proceedings will go through the courts or a practitioner who administers your debt. They collect your payments each month, and then distribute it to your creditors. The creditors have to go through the courts again to have anything with the order changed.
Repayments are made monthly, at an agreed rate that you are able to afford, over an agreed period of time. This gives you the chance to reorganise your financial life, and it can really help you to turn things around for the future.
For larger sums of debt, you will need to consider other options. Administrative orders aren’t appropriate for anyone owing more than £5,000. Beyond this, you might have to be issued a debt relief order (up to £20,000 worth of debt) by the courts.
Bankruptcy vs. Debt Consolidation
If you owe larger sums of money, a good alternative to declaring bankruptcy is to arrange a debt consolidation loan. A debt consolidation loan is a type of loan that provides you with a new sum of money that you use to pay off all your debts.
This might seem counterintuitive. After all, is it really a good idea to take out another loan to pay off your outstanding debts? Ordinarily not, but a debt consolidation loan is different.
This type of loan allows you to better manage your existing loans or debts, and to group them together into one place. Instead of paying off four or five different creditors each month, you’ll only be paying off one large loan each month.
The system works well because the new loan allows you to renegotiate the interest rates and repayment terms. If you’ve been struggling with a mounting level of debt and rising interest rates, then this is an effective way to reorganise your finances. With lower interest rates and better repayment terms, you will usually save money in the long run while still working towards paying off your debts.
Debt consolidation will stop you from having to apply for bankruptcy, but remember that you will still be paying back all of your debts over time (none of the debt is wiped out, it’s simply consolidated into one place).
Debt consolidation loans won’t work if you don’t have any income, as interest will still mount up on missed payments. While some debt consolidation loans are unsecured, more often than not banks will seek some form of security before they give you the loan (after all, they don’t want to lose their money!). Security often has to be given in the form of property or other important assets such as a car. If you miss your payments again, you could end up losing your home in the worst possible scenario.
Debt consolidation loans can be very effective as part of a wider debt management plan that aims to reorganise and re-evaluate your finances. However, you should always seek financial advice before taking out another loan when you’re already in financial difficulties.
Bankruptcy vs. IVA
An IVA, or individual voluntary agreement, is an agreement between a debtor and their creditors that aims to payback as much money as possible to the creditors, while still being fair to the person in debt.
An IVA sets up a repayment plan, whereby all of your creditors receive a certain amount each month. The repayments are based on what you can afford, which is based on your income. Importantly though, you won’t lose assets, such as your house or car (which you could if you declare bankruptcy).
An IVA has to be administered and set up by an insolvency practitioner, and it provides a way to keep pressure off the debtor and stop them from being unduly harassed by the people they owe money to.
Interest on the debts is completely frozen with an IVA while the repayment plan is more manageable, making this an attractive alternative to bankruptcy.
Which Alternative Is Best for Me?
If bankruptcy isn’t suitable for you, the best alternative will depend on your personal situation.
If you owe less than £5,000, an administration order would be the best alternative for you. It’s a relatively painless way to pay back smaller debts over a longer period of time.
If you owe a larger sum of money and owe that money to multiple creditors, a debt consolidation loan and debt management plan can get you back on track, without having to go through bankruptcy and all that it entails.
If you want to avoid bankruptcy and keep your property and assets, then an IVA could be your best option.
In certain circumstances, declaring bankruptcy could be the best option (for instance, if you don’t own a property or business, but owe a large amount of money).
Contact a Professional Insolvency Practitioner
The most important message to take away from our guide is that the best solution to financial trouble isn’t always going to be bankruptcy. There are other alternatives and they often provide a better and less destructive solution to your financial woes than bankruptcy.
You might not have been aware of the alternatives, because they are not so well known outside financial circles. The best first step you can take towards improving your financial situation is to talk to an insolvency practitioner.
Speak to an expert, discuss your problems, and work together to find the best solution for your personal circumstances.
Irwin Insolvency provides expert advice for business and individuals facing bankruptcy or insolvency. We have years of experience and a dedicated and empathetic team ready to help you through tough financial times. Contact Irwin Insolvency today for your free consultation.