How to Discharge Debt, and Is It Worth It?

by Neal Frankle, CFP ®

If you want to know how to discharge debt, understand that the most common way people do this is by filing for bankruptcy.

Once you discharge your debts this way, it’s permanent. That means creditors can’t legally try to collect from you anymore. No more threatening letters or calls. No contact. No nothing.

how to discharge debt

(However, if your creditor gets a lien against your property and it hasn’t been vacated by the bankruptcy proceedings, the lien is still enforceable. That means the creditor can foreclose on your property.)

But don’t break out the champagne just yet.

If you file for chapter 7 bankruptcy, the court will allow your creditors time to file a complaint objecting to the discharge. If the creditor doesn’t file a complaint, the discharge takes effect within four months after you first filed your petition.

In chapter 11 the court discharges your debt after you make the payments you agreed to in the debt payment plan. Since chapter 11 sometimes allows for payments to extend four or five years, the discharge may take some time to take effect.

Once the discharge takes effect, the court clerk mails a copy of the discharge order to all creditors and your attorney. The creditors are told to leave you alone or face contempt of court.

Not all debts are discharged.

Depending on the chapter of bankruptcy code you file under, the debts that aren’t discharged include:

a. Certain tax claims and government fines or penalties.

b. Debts you didn’t list on the schedules filed with the court.

c. Debts for spousal support, child support or alimony.

d. Debts for injuries to others done maliciously.

e. Student loans that are government-funded or guaranteed.

f. Debts for damage you did while driving intoxicated.

g. Debts you owe to some retirement accounts.

However, sometimes you can even overcome these limitations.

If you have debts due to malicious damage to property, debts to pay taxes or divorce payment debts, you might still get a discharge if you have a hardship due to circumstances beyond your control.

Just make sure you don’t blow it. Indeed, the court won’t discharge your debts (or they’ll revoke the discharge they issued) if you:

  • Don’t provide tax documents they require.
  • Don’t complete a course on personal financial management.
  • Do anything to hide or transfer assets in an effort to defraud creditors.

So don’t play games…OK? Even though you may be able to do it, avoid getting your debts discharged. Pay them instead. If you have very high credit card debt for example, consider a credit card alternative or a peer-to-peer lender like Lending Club to reduce your interest rate (for more information, see my Lending Club review).

First, it’s a hit against your Karma not to mention your credit. I personally think the knock to your Karma can be more damaging. The person you owe money to has a family and has obligations just like you.

Even if it’s a big corporation, when you get your debts charged off, the company passes those charge-offs on to recoup their losses. That means others pay higher prices.

In some unique circumstances, getting your debt discharged might be the right thing to do on balance. That’s something you’re going to have to decide. But I think you’ll gain a lot more if you find a way to work out your debts and pay them off. Your self-confidence will soar and that will pay off for you big time down the line.

But if you do end up discharging your debts, just make sure you do everything in your power to be a responsible consumer from now on. That includes getting your budget under control, not falling for financial scams, saving money and cutting your spending.

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{ 5 comments… read them below or add one }

Ronald Dodge December 2, 2010 at 4:25 PM

I also ended up resorting to bankruptcy in 1999, though how much I hated to do that, but one of my wife’s creditors (Wells Fargo) more or less forced us into it via their fraudulent actions with draft checks. Even after some of our debts were discharged, Wells Fargo still came after us for that same debt, but only under a different company name.

What really had us in bankruptcy?

My income was not high enough to cover necessary living expenses until technically February 2001. As such, I ended up building up debt from that stand point of view. As for getting help from the state, a no go cause of the fact the welfare system is specifically setup to help those who are not attempting to help themselves and not help those who are attempting to help themselves. I fell victim to that while still in college in multiple ways. That also reenforced a lot of the lessons I learned as early as 4th grade about people and life. Such lessons I learned that early were by a means no child should have to go through, but yet, I went through it and as such, was forced to learn only depend on my own self and not on anyone else period, end of story. Can’t even trust anyone at all as the environment I grew up in, including your own family members (if you can even call it that).

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Moneyedup August 22, 2010 at 7:32 PM

Paying your debts is definitely a better option than having them discharged, but everyone’s life situation is different. A friend of mine took over his family’s business and ran it to the ground. He then filed for bankruptcy and had to leave the country to find work. Filing for bankruptcy should be your last and final option. It can’t be taken lightly at all.

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neal August 18, 2010 at 8:37 AM

Weston,

Thanks.Let’s work backwards:

Karma – like I said, it’s up to the person and unique to the situation. Having said that, I know (personally) different people facing similar circumstances yet approaching it very differently. I don’t believe that everyone who files has no choice.

Hit to the credit — you are probably right on that. By the time someone is faced with discharge, they probably have shot their scores anyway. Thanks.

I appreciate your comment on the foreclosure issue. I have an entire post on bankruptcy and home equity. My statement was general in nature but I really appreciate your bringing these other nuances into the picture.

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Weston August 18, 2010 at 4:46 AM

In paragraph 3 above I meant to write “obligation” not “issue”

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Weston August 18, 2010 at 4:44 AM

A couple of thoughts right off the bat

1. Your statement about liens is inaccurate in many states. In my state for instance it is entirely possible to vacate a judgment lien on your home even if the lien remained under bankruptcy. Even if you don’t vacate the lien it still can not be foreclosed on if it is attached to our homestead.

2. Regarding the “‘hit to your credit” it is true but incomplete. Most people that I know who filed for bankruptcy already had a truly atrocious credit record by the time they decided to file. Filing made their credit record only slightly worse but looking at it from a cost benefit analysis they found it to be well worth it.

3. I’m also questioning your Karma comment. I don’t know of anyone who wanted to file for bankruptcy. Everyone that I know who filed did so only after they exhausted every other option. The examples you give such as… “The person you owe money to has a family and has obligations just like you.” isn’t really applicable. Most people who file for bankruptcy wouldn’t be able to pay the debt anyway. They just want to get on with their lives. Also if the debtor feels that their Karma is taking too much of a hit they are absolutely free to pay any discharged debt that they wish to. It’s just that they no longer have a legal issue to do so.

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