Bankruptcy, Misconceptions and My Finances

I am going to go through some common misconceptions you should be aware of before choosing to do a bankruptcy, foreclosure, short sale, or something else.


If I file bankruptcy I will be relieved of all my financial obligations.

Not likely. If you file a chapter 13, you are just reorganizing your debt and getting a lower monthly payment. If it's a chapter 7, a 'discharge' of debt, you will not have to pay anything, right? Wrong! You are only protected up to $1,000 of personal property (cars, furniture, bank accounts, etc.) unless you relinquish your personal 'homesteaded' home, which will give you an additional $4,000 (in my home state of Florida) of exempt property. Everything you own gets a value, and above the max $5,000 exemption, you must pay for. (This may still be a better way to go than having the liability that comes with a foreclosure, or even a short sale depending on your situation.)

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A Short Sale Will Satisfy my Debt to the Lender, ending any other Financial Obligation related to the property.

Don't ever let anyone convince you of this! Unless the lender puts in writing that the short sale payoff is "payment in full", you may be liable for a "deficiency judgment". Unless the property is your primary, (homestead), residence for 2 of the last 5 years, the mortgage(s) were used for purchase and or improvement of the property itself, and the debt is under $2 million you are liable for 'cancellation of debt' tax. Similarly, you will liable for tax on "Phantom Income" of the difference between the total debt incurred and the short sale payoff over $250,000 even if the home is your primary residence and you didn't take out an equity line to buy a Porsche.

You may also be required by the bank to sign a promissory note as a condition of the short sale. This means you will make payments to the bank every month to satisfy some of the financial losses that the bank had incurred. Of course, a short sale is ALWAYS better than a foreclosure. The amount of forgiven debt with a foreclosure is always going to be higher (as long as you were 'upside-down' in the first place).

No Matter What I Do, I'm Going To Owe Money To Someone.

Surprisingly, No. As in the above situation for a short sale, there are a couple of ways you can get out without owing anything. Only certain lenders, in certain situations require a promissory note, and if you are "insolvent" you don't have to pay taxes on the cancellation of debt, or phantom income tax. And if you don't have any assets, then the bank will not spend thousands in court and attorney fees to sue you for a deficiency judgment.

A bankruptcy, on the other hand, will cost you from $1,800 - $3,000 or more, depending on the Chapter 7, 11, 13, etc. and if you are doing so for yourself, you and a spouse, your business, or you and your business. This is all upfront, before they even file the paperwork. After that, you will likely be liable for future expenses as discussed in misconception #1.

Disclaimer: I am not a licensed accountant, or a certified attorney, I am just sharing the knowledge that I have gained as an individual who has dealt with foreclosure, bankruptcy, and credit issues first hand.

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