A Zero Credit Balance doesn't always mean Zero

Mortgage and Lending with First Option Mortgage 269761

Bankruptcy should be the last thing to consider when a financial hardship strikes. There are several types of bankruptcy options but the most common for consumers are Chapters 13 and 7.

Chapter 7 allows for the forgiveness of almost all debt (Taxes, Fraud Charges, Tax Penalties and Child Support payments are not forgiven) and must be approved by the bankruptcy court. Since 2005, an income test has been used to determine if the person (Debtor) qualifies for Chapter 7.  If the Debtor does not qualify, then Chapter 13, repayment, is a better option. Chapter 7 requires certain estate assets to be dissolved before completing the process. 

Chapter 13 allows for a repayment plan. It is mostly used for Debtors who owe more than the value of the asset, are having difficulty paying their debts due to financial hardship, they owe several years in taxes or don't qualify for Chapter 7.

A person has the choice of going through with the Bankruptcy or he/she can have the case dismissed after filing. When a person files Bankruptcy, all collection activity of the creditors must stop. This includes but is not limited to stopping garnishments, phone calls, freezing bank accounts, stopping foreclosure, preventing repossessions etc. The person can then dismiss the Bankruptcy which takes time to report back to the creditors. Most people are unaware that this does major damage to their credit scores because they crossed the line in filing Bankruptcy and would do it again if needed. If you are a Creditor and knew that someone filed Bankruptcy before, would you lend that person money?

When a person files Chapter 13 or Chapter 7 (Chapter 13/7) and has it dismissed on a debt, the credit account falls in the collection or public record part of the credit bureau, usually located at the bottom of the credit report (the accounts that are not included in the Bankruptcy are reported at the top of the credit report). The account may report a zero balance if dismissed or it may not. It is difficult to know if the account still has a balance, a monthly payment or was sold to another service provider/Creditor and many times the applicant doesn't know or remember if the debt was paid off, sold or still holds a balance. 

When doing a pre-qualification for an applicant, the Loan Officer needs to make sure that:

1. The accounts reporting in the collection and/or the public records section of the credit report are still being paid or if they are closed. The applicant can call the creditor to find out the information needed.

2. If the accounts were sold to another service provider/Creditor, then are they part of the account located at the top of the credit report.

3. If the accounts were not sold to another service provider/Creditor, and the account is not paid off or closed, what is the new monthly payment and balance. The applicant will need to obtain a letter from the service provider/Creditor to determine the monthly payment/balance.

4. These debts need are to be calculated in the debt to income ratios.

5. Make sure that the Lender will not consider the Chapter 13/7 as active even if it was dismissed. This may affect the automated underwriting decision.