Debt Relief Experts
Personal bankruptcy in Canada is a legal process that eliminates overwhelming debt, and while it offers a fresh financial start, there are consequences to filing for bankruptcy in Canada. There may be an alternative to bankruptcy and a better debt relief option for your personal financial situation. In this article, we will explore what it means to file bankruptcy and compare this to other debt solutions.
Table of Contents
Understanding Bankruptcy
Bankruptcy involves surrendering non-exempt assets and making monthly payments in exchange for eliminating most unsecured debts. In Canada, personal bankruptcy applies to individuals and small businesses, while business bankruptcy is reserved for incorporated companies.
Bankruptcy must be filed through a Licensed Insolvency Trustee in Canada, who oversees the process and ensures compliance with legal requirements.
One immediate benefit of bankruptcy is the automatic stay of proceedings, a legal protection that stops all creditor actions, including wage garnishments, collection calls, and lawsuits.
Bankruptcy deals with unsecured debts such as credit card debt, student loans, payday loans, and tax debt, but it does not cover secured debts like mortgages or car loans.
For a first-time filer with no surplus income requirements, personal bankruptcy typically lasts nine months. However, if your income exceeds the federal government’s threshold, the bankruptcy period extends to 21 months. For those with significant surplus income or at risk of losing valuable assets, a consumer proposal may be a preferable alternative.
Consumer Proposal: #1 Alternative to Bankruptcy
The Bankruptcy and Insolvency Act defines a second legal option available to individuals needing debt relief: a consumer proposal. Today, roughly 80% of all personal insolvency filings in Canada are a consumer proposal. It is now the #1 alternative to filing bankruptcy for Canadians struggling with debt. A consumer proposal offers a legal framework to reduce and restructure debt without declaring bankruptcy. Through this process, a Licensed Insolvency Trustee helps negotiate an agreement with creditors to repay a portion of your debt, often extending payments over a period of up to five years.
As a government debt relief solution under federal bankruptcy law, a consumer proposal provides the same creditor protection from legal action as bankruptcy.
Your proposal can reduce your debt while allowing you to keep your assets. To qualify, your total debts must be no more than $250,000 (excluding your mortgage).
Key Differences From Bankruptcy:
- Keep all assets under your control
- Fixed monthly payments with no surplus income requirements
- Maximum five-year repayment period
- Shorter credit impact (3 years after completion vs 6-7 years for bankruptcy)
- No requirement to report monthly income
In Canada, a consumer proposal often represents the most viable bankruptcy alternative. For those with debts exceeding $250,000, a Division I proposal provides similar benefits but with different voting rules and consequences if creditors reject the proposal. Your Licensed Insolvency Trustee can explain these differences and help determine which option best suits your situation.
In addition to formal insolvency proceedings, several options exist for managing overwhelming debt in Canada. Here are some other bankruptcy alternatives.
Consider a consumer proposal?
Debt Consolidation
Debt consolidation combines multiple debts into one new debt consolidation loan, often at a lower interest rate. The result is a single monthly payment and sometimes faster debt repayment. Consolidation options include a consolidation loan from a bank or credit union or refinancing existing debts through a second mortgage or home equity line of credit. A debt consolidation loan can help individuals pay off their debts while avoiding the negative consequences of bankruptcy, such as damage to your credit score and potential loss of assets.
When considering debt consolidation, any potential lender will consider your credit score and current debt levels. You’ll need to qualify for a new loan at an interest rate low enough to make consolidation worthwhile. If you have a low credit score, you may be denied a consolidation loan, in which case a consumer proposal may be a good alternative to restructure your debt payments.
Key Differences From Bankruptcy:
- You maintain complete control over assets, although your assets may be at risk if put up as collateral for a secured consolidation loan
- Debt consolidation can be better for your credit than bankruptcy, but only if you pay down your balances.
- A significant drawback of a debt consolidation loan is that there is no debt reduction. In fact, continuing to use your credit cards to pay for living costs can result in more debt.
Consolidation works best when you have a steady income, can repay your debt within 3-5 years, and your total debt payments don’t exceed about 40% of your take-home pay.
Credit Counselling and Debt Management Plans
A debt management program is a structured repayment plan to help you repay your debts. You work with a non-profit credit counselling agency to negotiate lower interest rates and consolidate debts into one monthly payment. However, participation by creditors remains voluntary, and you’ll need to repay the full amount borrowed. Unlike Licensed Insolvency Trustees, credit counsellors cannot provide legal protection from creditors or reduce the principal amount you owe.
Key Differences From Bankruptcy:
- No legal protection from creditors, so a DMP can’t stop garnishments or lawsuits
- You must repay the full debt amount plus fees
- Creditor participation is voluntary, meaning some collection calls may continue
- There is no government oversight of the process
- Not all credit counsellors are accredited debt consultants
Credit counselling works best for individuals who can afford to repay their debts in full but need help with budgeting and interest rate relief. The most significant advantage lies in receiving professional guidance to develop better financial habits.
Debt Settlement: Understand the Risks
Debt settlement involves negotiating with creditors to accept less than the full amount owed, typically through a lump-sum payment. While this might sound appealing, private debt settlement carries significant risks and provides no legal protection during negotiations.
Consumer proposals offer a safer, legally binding alternative to private debt settlement. Both options can result in paying less than the full amount owed, but consumer proposals provide legal protection and guaranteed creditor participation once approved.
Key Differences From Bankruptcy:
- No automatic stay of proceedings
- You must negotiate with each individual creditor
- Informal debt settlement has a low success rate
- There is the potential for continued collection action
- You may still face legal action during the process
Warning signs of debt settlement scams include upfront fees, guarantees of debt reduction, and pressure to stop communicating with creditors. Always work with licensed professionals when seeking debt settlement arrangements.
Credit Rating Impact of Different Options
Each debt solution affects your credit report differently. Any structured repayment plan or insolvency proceeding will affect your credit rating.
- Bankruptcy remains on your credit report for 6-7 years after discharge for a first bankruptcy.
- Consumer proposals show for 3 years after completion or six years from the start, whichever comes first.
- Credit counselling programs typically appear for 2-3 years after completion.
- Debt consolidation through traditional lending can actually help rebuild credit if payments are made on time. However, missing payments on a consolidation loan damages your credit score just like any other credit default.
Which Alternative Should I Choose?
Your debt situation and the type of debt you carry heavily influences which option will work best. Credit card debt, typically with high interest rates, may be manageable through consolidation if your credit score allows for a lower-rate loan or you have sufficient equity in your home. Student loans require special consideration, but they are discharged by bankruptcy after seven years of leaving school. Payday loans often signal severe financial distress and may require immediate legal protection through bankruptcy or a consumer proposal.
Consider these factors when evaluating your debt situation:
- The amount of debt you carry and your ability to repay
- If you need protection from creditor actions
- What assets do you own and want to preserve
- Your timeline for becoming debt free and its impact on future financial goals
The severity of your financial problems will guide your choice. The key is to build a payment plan that resolves your debt. For debt help, talk with a Licensed Insolvency Trustee about your restructuring options.
Hoyes, Michalos & Associates Inc. is not a bankruptcy firm – we are a “fresh start” organization. We know that bankruptcy is not your only option. When you call us for help with overwhelming debt, we explain all the alternatives to bankruptcy in Canada. You might be surprised to know that less than 10% of the people who contact us for help actually file for bankruptcy. Let us help you explore your options.
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Related Questions
What is the most popular form of bankruptcy in Canada? Consumer proposals are the most common debt relief option in Canada, with eight in ten Canadians choosing this bankruptcy alternative.
When is filing bankruptcy the best option? Bankruptcy is often the last resort most people consider. Paying off debt without bankruptcy can help you maintain a good credit score and avoid bankruptcy, but it may also require a significant amount of time. If you have large unsecured debt balances, can’t pay those debts within five years, barely make your minimum payments or face creditor actions (including wage garnishments and collection calls), bankruptcy may be the best option to gain a fresh financial start.
Is credit counselling a viable option for avoiding bankruptcy? Credit counselling helps many Canadians avoid bankruptcy through budgeting assistance and debt management programs. However, a credit counselling agency can only help when you can afford to repay your full debt amount over time. If you need a fresh start, it’s best to work with a Licensed Insolvency Trustee.
Can I borrow from family to avoid bankruptcy? While family loans can help avoid bankruptcy, consider the relationship impact and create clear repayment terms. Document the loan and ensure it won’t create hardship for family members.
When is filing bankruptcy the best option? Bankruptcy often works best when you have significant unsecured debt, cannot pay your debts within five years, barely make your minimum payments, face creditor actions, or need immediate legal protection from creditors.
