Filing for Chapter 7 bankruptcy can erase your consumer debt and give you a fresh start. It’s a delicate process, though, and you need to watch out for the pitfalls that could derail it. For example, you’ll need to be very careful with how you use your credit card before filing Chapter 7 bankruptcy.
There are laws in place to stop people from abusing the system, and you could accidentally break them if you’re not aware of them, even if your intentions are pure. If you’ve decided to file for Chapter 7 bankruptcy, here’s what you need to know to use your credit card safely in the meantime.
What the Law Says About Credit Cards Before Filing Bankruptcy
Taking on debt (credit card or otherwise) with no intention of paying it back is against the law. The issue arises with bankruptcy because when someone plans to file, they may be tempted to rack up debt charges, knowing the process will relieve them of their responsibility to pay. That’s called bankruptcy fraud, and it’ll get you in a lot of trouble.
⚖️ Title 18 of the United States Code, Section 157 defines bankruptcy fraud as: “making a false statement, claim, or promise in relationship to a bankruptcy proceeding either before or after the filing of the petition.”
Whenever you charge something to your credit card, you’re promising to pay those amounts back. If you do so just before filing Chapter 7, it may appear as if you made that promise in bad faith, intending to include those debts in your bankruptcy.
Even if the courts don’t take issue with it, your lender might. Your bankruptcy will include a meeting with creditors, called a 341 meeting (it is mandated by Section 341 of the Bankruptcy Code). During your 341 meeting, creditors can argue against the discharge of certain debts.
⚠️ If you rack up credit card charges right before filing, your creditors will probably contest them.
How the Law is Typically Applied
Because of the fraud laws, it’s best to avoid using your credit card before filing Chapter 7 bankruptcy, especially once you know you want to pursue it. However, the decision to file is not an easy thing to track.
Even you might not know for sure when exactly you decided you wanted to file, and it’s even more difficult for the court to provide evidence of intent. That’s why, in practice, there are benchmarks for what kind of charges raise the question of fraud. They are:
- Luxury purchases: Spending $750 or more on things like jewelry, restaurants, or vacations 90 days or less before filing for bankruptcy.
- Cash advances: Taking out $1,000 in cash advances from a single card 70 days or less before filing for bankruptcy.
The courts will automatically presume charges in both categories to be fraudulent. That means you will have to prove that you did not intend to include these debts in your bankruptcy, which is the opposite of most cases where you’re innocent until proven guilty.
For charges that don’t fall neatly into these categories, they’ll consider what you purchased, how much you paid for it, and when you bought it in the context of your case as a whole.
☝️ If you have credit card charges in the months before filing Chapter 7 bankruptcy, be prepared to answer questions about what made you decide to file and when you first made the choice.
What to Do Once You Decide to File Bankruptcy
Once you decide to file for bankruptcy, you need to proceed carefully to avoid getting into further legal or financial trouble. Here are the steps to take (and some mistakes to avoid) in the time between your decision to file and dropping off the papers.
1. Stop Taking on More Debt
Ideally, once you know that you intend to file bankruptcy, you should stop taking on new debt entirely. You don’t want to run the risk of looking as though you might’ve committed bankruptcy fraud.
If you do pay for something with your credit card just before filing Chapter 7 bankruptcy, try to pay it back before filing your paperwork. Hopefully, it’s a small amount, and you can catch it early. Just be careful not to give them preferential treatment by paying them more than other creditors.
2. Consider Stopping Some or All of Your Debt Payments
Many people who are struggling with debt to the point that they need to file bankruptcy don’t rack up new credit card charges for the heck of it. They do so because they don’t have the cash to support themselves and their existing debt payments.
If that’s true in your case, it can make sense to stop making payments toward your outstanding balances. That money may serve you better if you put it toward putting food on the table, keeping a roof over your head, or engaging an attorney to help with your bankruptcy case.
Don’t worry too much about upsetting your creditors when you can’t afford to pay. That’s what bankruptcy is for, after all. Besides, whether you keep up your payments or not, they’ll almost certainly cancel your account after they learn that you’ve filed for bankruptcy.
That means you’ll probably lose all of your credit cards, even the ones that don’t have outstanding balances. A lender might not learn of your bankruptcy at first if you don’t owe them anything, but they will eventually (it’s a matter of public record).
Keep in mind that stopping your payments will hurt your credit score. It’s going to take a beating when you go through bankruptcy anyway, but that’s still something to consider.
Learn More: Are you looking for ways to rebuild your credit after filing for bankruptcy or experiencing another significant setback? Take a look at our guide to getting back on your feet: How to Rebuild Credit.
3. Don’t Pay Back Your Family or Give Them Any Assets
The last thing you want to do in the lead-up to your bankruptcy filing or proceedings is to deceive (or look like you’re attempting to deceive) the court. To avoid incriminating yourself, don’t pay back any debts you owe your family or transfer any of your assets to them after you’ve decided to file.
You can’t give special treatment to the people closest to you by prioritizing them over other creditors, and putting your assets in another person’s name won’t protect them from liquidation in a Chapter 7 bankruptcy. Doing either can derail your bankruptcy, and the courts will just reverse the transactions anyway.
4. Gather Your Documents
Your bankruptcy proceedings will largely be devoted to an analysis of your finances. The courts need to verify that you meet the qualification requirements and confirm that your debts are dischargeable.
To make this as painless as possible, start gathering your documents as soon as you can. Start with the following:
- Bank, credit card, and investment statements.
- Pay stubs, if employed.
- Your last two tax returns.
- Property valuations for your house, car, and personal property.
- All collections correspondence.
- Credit reports.
- Identification (driver’s license and Social Security card).
You should gather at least a few months for each of the statements above (where applicable), but more is always better. You need these during your case and they will help you fill out your application.
5. Take Your Credit Counseling Class
Everyone who wishes to file for bankruptcy must take credit counseling and debtor education courses. You can take the latter during your court proceedings, but you have to complete the credit counseling class before you file.
Credit counseling agencies are usually non-profit organizations that help consumers with their debt, credit, and budgeting. The courts mandate that you meet with one to reduce the likelihood of you needing to declare bankruptcy a second time.
You can look at the federal government’s list of approved credit counselors to find one near you or take your class online. The course usually costs around $25 and lasts an hour or so. Make sure to have your documents with you, as you’ll need them during the class.
6. Consider a Lawyer Sooner Rather Than Later
Lawyers can be expensive, but there are ways to get affordable or even free help. A lawyer can be an invaluable ally, even before you begin your court proceedings.
A bankruptcy lawyer can guide you through the filing process and help you avoid making any mistakes that might hurt your case later. They can also help you deal with many issues that you might not even be aware of as a layman.
Bankruptcy is a Marathon, So Be Patient
If you’re preparing to file for bankruptcy, you’ve got a lot of work ahead of you. The proceedings alone can take as much as six months, so you can’t rush through the process.
Just remember that you will have a life after bankruptcy. If you do everything right from the beginning, you’ll start that life with a lot less of a headache. Do your due diligence and be patient so you can get your clean slate without too much trouble.