Bankruptcy v. Deed In Lieu of Foreclosure
Clients have frequently asked us what is the difference between a deed in lieu of foreclosure and a bankruptcy?
First, a deed in lieu of foreclosure (DLF) is when the homeowner signs over and transfers the deed to the home to the mortgage company without the legal process of a foreclosure. Most people believe this will look better on the credit report than a bankruptcy or a foreclosure. This is possible, however a DLF does not wipe out the pre-existing debt on the home as a bankruptcy would do. In other words, you as the homeowner would still owe the deficiency debt on the mortgage, the DLF just saved the mortgage company the time and expense of foreclosing. It does not eliminate the debt you owe them! This is the same on a “short sale”.
The mortgage company will eventually sell the home, usually at a loss, and demand you pay them the difference in money unless you have agreed in writing to wipe out the debt still owed. This debt is usually several thousands of dollars and possibly tens of thousands of dollars. The difference in what you owe the mortgage company and the amount they sold the house for is called a “deficiency balance”.
If you do not pay the mortgage company the money they have demanded, they could sue you for the difference they lost from the sale of the home. The mortgage company will usually win the lawsuit because you do owe them the deficiency balance unless you have reached an agreement with them saying that you will not owe the deficiency balance.
In the alternative, the mortgage company could believe the debt is “uncollectable” from you and forgive the debt. You may think, “that’s great!” However, there’s a catch. The mortgage company will try to “write off” these thousands of dollars of loss on their taxes by filing a 1099(c) with the IRS eliminating your debt to them. The drawback is the IRS will consider this “forgiven” debt to be gross income if it totals more than $600. In other words, you don’t have to pay back the full amount of the debt but the IRS will tax you on that forgiven debt as gross income. For example, the mortgage company losses $50,000 on the sale of your home. The IRS will expect you to pay taxes on the $50,000. If you are in the 25% tax rate, you would have to pay $12,500 in taxes to the IRS. If you do not have the $12,500, the IRS could start assessing you penalties and interest. That could, in turn, lead to the garnishment of your paystubs!
In contrast, a bankruptcy will usually eliminate any deficiency balance you owe the mortgage company. Therefore they cannot sue you or attempt to collect the deficiency balance you owe them. The IRS usually cannot tax you for the deficiency balance you owe the mortgage if you file the bankruptcy. If you file bankruptcy, you are considered insolvent, and the IRS must waive the tax liability on the 1099 if you are deemed insolvent.
In conclusion, consider your options. However we believe surrendering the home in bankruptcy and wiping out any deficiency balance and eliminating your other unsecured debts, such as credit cards and medical bills, is usually a better alternative than a deed in lieu of foreclosure.
What To Look For In A Credit Card After Bankruptcy
Yes, credit cards are the evil culprit for many folks who have had to file bankruptcy, but credit cards are not entirely terrible. Having a credit card helps in many ways to help build your credit, you just need to get the right one that is tailored for you and your needs. For someone who is coming right out of a bankruptcy, all you wish to do is move forward and a credit card is one of your first steps in establishing good credit. There are a few things that you need to look for in one when you are ready to start establishing credit.
What are the start up fees? Are there hidden fees?
Many cards do not have an application fee, but will have annual fees that will be incurred in the future and in many cases, you must pay it when you first sign up for the card. You will want to do thorough research on this, because in some cases, the annual fee may be low, but the hidden fees may hit you hard!
What is your interest rate?
This is a given. Just like you would not want to buy a car with a high interest rate, you do not want a card with one either. Once you leave a balance (i.e.: you do not pay the card off immediately after using it) your credit card company is going to charge interest. Even if you are not using the card, they will still charge interest on the balance of the card.
Keep your balance low
Credit bureaus do not determine your score solely by whether or not you have made your payments on time. They also look into your balances. You do not want to have a high balance on a card because it will bring your score down. A high balance is how much you owe on the card. If you have a card that only has a $300 credit limit, you need to try to keep your balance owed on the card under $150.
Get a secured credit card
This is sometimes, but not always, a great way to start to establish credit. You will have to put money “down” on the card (which is what your credit limit is based upon, for example, you put $300 down, then your credit limit would be $300.) You will need to look into it whether these cards report to the credit bureau. If they don’t, the card won’t help you establish payment history.
The Basics of Understanding Financial Statements for Your Business
There are two financial statements that you must provide for your business when you file personal bankruptcy: the income statement or profit and loss and the balance sheet. We will look at the financial statements for a small plumbing business, ABC Plumbing. We encourage you to click on the blue links to open examples of a profit & loss statement and balance sheet. This is a simplified approach to the financial statements, so you should seek advice from your accountant should you have questions when preparing the financial statements for your business. We will also only be looking at Operating Income and will not consider interest income, interest expense or other non-operating items that most businesses incur.
What Financial Statements are Required for a Business if I’m Filing Bankruptcy?
If you are self-employed or own your own business, you should prepare monthly financial statements to understand how your business is performing. Realistically, financial statements are often the last thing a small business owner worries about. He or she is usually more concerned about how to make the next sale or generate the next contract. However, when an individual files bankruptcy, the financial statements of the business are required to determine the profitability of the business as well as the value of the business.
For our purposes, there are two basic financial statements for your business that will be required when you file personal bankruptcy: a profit and loss and a balance sheet.
The profit and loss reflects the profitability of the business over a period of time. It takes into consideration the business’s income, expenses and the resulting profit or loss. The period of time could be weekly, monthly, quarterly, annually, etc. For the bankruptcy, we will want the profit and loss for each of the six months prior to filing bankruptcy as well as a current period year-to-date. For example, if you are filing bankruptcy in April 2011, you would need the profit and loss statements for October, November, and December 2010 as well as January, February and March 2011. In addition, an April 2011 year-to-date profit and loss would also be required. We will look at the component of a profit and loss in more detail in another blog post.
The balance sheet reflects the value of the company at a point in time. It is usually considered the most important financial statement for the business, but oddly enough, it is often overlooked by everyone except for your accountant and banker. The balance sheet takes into consideration the profit or loss for the company as well as the assets and liabilities for the company. A balance sheet is sometimes referred to as the thermometer of the business, since you can use it to check the business’ “temperature” to determine if it is “healthy – 98.6” or “sick – 102.” The balance sheet reflects the true value of the business at a point in time, such as March 30, 2011. If on March 30, 2011 your business has a value of $10,000, you should be able to sell the business for $10,000 if you have a willing and able buyer. We will look at the components of a balance sheet in another blog post.
Preparing and understanding the financial statements for your business can be an overwhelming task. Many small businesses purchase accounting software to help them prepare the financial statement or they may hire an accountant to assist the business owners. Let’s look at a simplified version in the blog post, The Basics of Understanding Financial Statements for Your Business.
