Bankruptcy is a legal process by which all of your outstanding unsecured debts are cleared. Think of it as starting from scratch financially. While this may sound appealing, declaring bankruptcy is generally reserved as a last resort for a variety of reasons.
If you declare bankruptcy, you would have to sell off any valuable assets you own (within provincial and federal parameters), such as investments, valuable goods, some furnishings and even possibly your home. Your credit score will also take a hit long-term, making it very hard to get loans, credit cards and mortgages because creditors will see you as too much of a credit risk. Furthermore, it could even hurt your job prospects and could make it harder to find an apartment.
Thankfully, bankruptcy isn’t your only debt relief option in Canada. Below, we’ll explore the best alternatives to bankruptcy.
Key Points
- Bankruptcy is a big step with lasting consequences such as long-term credit damage, so it’s wise to consider alternatives.
- Alternatives to bankruptcy include consumer proposals, orderly payment of debts (in some provinces only), debt management programs, selling assets, debt consolidation and debt settlement.
- Each alternative has its own unique pros and cons, so it’s vital to do your research.
What Are Some Alternatives To Bankruptcy?
Luckily, if you’re drowning in debt, bankruptcy isn’t your only option to get out from under it. Here’s a look at some alternatives that could help you avoid the worst effects of bankruptcy, such as having to liquidate assets and a decrease in your credit score that makes it difficult to get credit products for years.
Consumer Proposal: Alternative #1
A consumer proposal is a formal, legally binding way of paying back your creditors that lets you clear your debts without having to declare bankruptcy. A consumer proposal is a legal process that is governed by Canada’s Bankruptcy and Insolvency Act and must be overseen by an officially licensed Insolvency Trustee (LIT). You and your trustee work with your creditors to come to an agreement about a percentage of your debts that you agree to pay back. In exchange for taking less money than they are owed, creditors are guaranteed a reliable set schedule of payments after which your debt is declared cleared. Over the next three to five years (the average time it takes to fully pay off a consumer proposal), you’ll make regular payments on your debt until it is paid off in full. There is no interest charged on your payments.
Why A Consumer Proposal is a Good Alternative
- You Get To Keep Your Assets. Unlike with bankruptcy, where you’re expected to sell off valuable assets, with a consumer proposal, you usually get to retain all your assets.
- Protection From Creditors. Creditors that are part of the agreement must cease all debt collection actions against you. That means no more annoying calls from collectors and no wage garnishments.
- Unsecured Debts Are Cleared. By paying off a portion of your debts, you’ll be cleared of all your debt except debts that can’t be included in your consumer proposal, such as a mortgage or vehicle loans.
- Lower Impact On Credit Score. A consumer proposal has less of an impact on your credit score because you’ll receive an R7 rating instead of an R9, as with bankruptcy. It also only stays on your credit file for either three years from the date of discharge or six years from the date you filed, whichever comes first. You can also pay off the amount you owe earlier, so it comes off your credit report quicker.
- No Payment Increases. If your income increases while making repayments, your payments will not correspondingly increase.
Learn more: Consumer Proposals
Bankruptcy Vs Consumer Proposal
| Bankruptcy | Consumer Proposal | |
| Definition | Legal process where debts are wiped out (discharged), subject to certain terms. | A formal, legal agreement to pay a predetermined percentage of debts over time |
| Creditors must approve | No. Creditors have no input | Yes. All creditors must agree |
| Impact on Assets | Assets may be sold to pay creditors (some exemptions apply). | Assets are generally not sold, but some may be part of the proposal. |
| Duration | Typically lasts 9 months up to 21 months if you have surplus income. | Usually 3 to 5 years, depending on the repayment terms. |
| Credit Impact | R9 rating. | R7 rating |
Orderly Payment Of Debts: Alternative #2
Certain provinces in Canada, such as Alberta, have a debt relief program called the Orderly Payment of Debts (ODP). With this debt relief program, a provincial administrator arranges legally binding payments of your unsecured debts. You must pay off your debts in full over a maximum of five years, and you’ll be charged a set annual interest rate of 5%.
This is generally a good option for those who can afford to pay back all their debt but can’t manage the high interest rates that are being charged and quickly accumulating. This option is also for people who find it hard to juggle multiple payments and want the ease of a single monthly payment.
Why An Orderly Payment of Debts is a Good Alternative
- Keep Your Assets. You don’t have to sell off any assets.
- Protection From Creditors. Your creditors are no longer allowed to take actions against you.
- Lower Impact On Credit. Compared to a bankruptcy, an orderly payment of debts has a lesser impact on your credit score. Your credit file will be rated an R7 and will stay on your file for up to two years after you’ve completed the program.
Bankruptcy Vs Orderly Payment Of Debts
| Bankruptcy | Orderly Payment of Debts (OPD) | |
| Definition | Legal process where debts are wiped out (discharged), subject to certain terms. | Repay your debts in full with an interest payment set at 5%. |
| Impact on Assets | Assets may be sold to pay creditors (some exemptions apply). | Your assets are protected. |
| Duration | Typically lasts 9 months up to 21 months if you have surplus income. | Usually 3 to 5 years, depending on the repayment terms. |
| Credit Impact | Significantly impacts credit score for 6-7 years. | Impact is less severe; stays on credit report for 2 years after completion. |
Debt Management Program: Alternative #3
A debt management program is an informal repayment process that you arrange via a professional credit counselor to help pay off your unsecured debts. Your credit counselor works on your behalf with your creditors to restructure your overall debt. In most cases, you still have to repay all your debts, but it’ll be consolidated into one payment stretched over up to 5 years.
However, your interest rates on the debt may be significantly reduced or waived altogether.
You’ll make payments to the credit counseling agency who then distributes the funds to your creditors.
Why A Debt Management Plan Is A Good Alternative
- Keep Your Assets. You can keep your valuable assets without worrying about selling them off to pay your debt.
- Lower Impact On Credit. A debt management plan has less impact on your credit and only stays on your file for two years after the program is completed.
- Potential Debt Reduction. While you still have to pay your debt, you can sometimes pay a reduced amount, and it will be spread into more manageable, monthly payments. Additionally, you may be able to get a reduced interest rate or pay no interest at all.
Learn more: Debt Management Program (DMP)
Bankruptcy Vs Debt Management Program
| Bankruptcy | DMP | |
| Definition | Legal process where debts are wiped out (discharged), subject to certain terms. | Informal process where debt is consolidated into one monthly payment. |
| Types Of Debt It Clears | Mainly unsecured debts like credit cards, loans and lines of credit. | Mainly unsecured debts like credit cards, loans and lines of credit. |
| Impact on Assets | Assets may be sold to pay creditors (some exemptions apply). | None |
| Duration | Typically lasts 9 months up to 21 months if you have surplus income. | Repayment usually takes from 3 to 5 years. |
| Credit Impact | Significantly impacts credit score for 6-7 years. | Impact is less severe; stays on credit report for 2 years after completion. |
Other Alternatives To Bankruptcy
If you’re looking for other ways to control your debt, consider the following:
Sell Assets
Instead of declaring bankruptcy and being forced to sell your assets, consider voluntarily selling them to put your debts to bed. You can liquidate personal assets like real estate, vehicles and other valuable possessions to pay off debt.
Pros
- Selling off assets is possibly the quickest and easiest way to get the funds to pay off debt and you don’t need to involve a trustee or the courts.
- Selling assets won’t affect your credit score.
Cons
- You may have to sell a beloved family heirloom or a car that may make getting to your job difficult.
- May not fully cover all debts, if your assets aren’t valuable enough or your debt is very high.
Home Equity Debt Consolidation Loan
Generally, getting a debt consolidation loan with a good interest rate is difficult, especially if your credit score has taken a hit. Instead, if you’re a homeowner with equity in your home, you can get a large home equity loan or a home equity line of credit with a low-interest loan. You can then use it to consolidate your debts, particularly ones with a high interest rate, and pay them off over several years.
Pros
- You can get a large loan and a loan rate even if you don’t have great credit
- You can spread your debt over multiple years, making payments affordable.
Cons
- You can lose your home if you default.
- Doesn’t reduce the amount of debt, just consolidates it.
Learn more: Should You Use Your Home Equity To Pay Off Your Debt?
Debt Settlement
While it can seem intimidating, one of the best tactics can be to simply try to negotiate directly with your creditors for a lower lump-sum payment. You or a debt settlement company will negotiate on your behalf with creditors for a reduced balance. While it may seem counterintuitive, creditors may often be willing to accept less money in exchange for guaranteed payments where they don’t need to keep chasing a creditor.
Pros
- Can significantly reduce the total debt owed.
- Can provide quicker relief (and less damage to your credit file) than bankruptcy.
Cons
- Requires a lump sum or significant funds upfront.
- Can damage credit score depending on how long it takes you to pay back the amount owing.
- Creditors are under no obligation to accept the agreement.
Learn more: Debt Settlement
How To Choose The Best Bankruptcy Alternative For You
Here are some factors to consider when choosing the best bankruptcy alternative:
- The Severity Of Your Debt: If you owe a large amount and have aggressive creditors, a consumer proposal may be the best choice.
- Types of Debt: Unsecured debts (e.g., credit cards) are easier to manage with alternatives; secured debts (like a mortgage) or government debts may need specialized strategies.
- Asset Protection: If you want to protect your assets, a consumer proposal doesn’t usually put assets at risk.
- Credit: Alternatives like debt consolidation and a consumer proposal are less damaging to your credit file.
Bottom Line
Contemplating bankruptcy can be an incredibly stressful and emotional experience. However, it’s important to remember that there are viable alternatives to bankruptcy that are less drastic (and do less damage to your credit) but can still help get your finances back on track. Ideally, it’s wise to consult with financial advisors to ensure you have a clear picture of your options and can make the right choice for your unique circumstances.
