Bankruptcy is a legal term for declaring your inability or impairment to pay your creditors. It is apparently an ancient condition, and depending on the culture of each place and time, bankruptcy could place you into slavery to your creditor or allow you to be forgiven of your debts so that you could move on with your life. But even then, you would have to sell off your assets to pay the creditors. And Genghis Khan decreed that three bankruptcies and you’re out (as in death sentence).
Modern times has softened the blow that financial misfortune brings to so many. Our bankruptcy laws are more forgiving now (to the debtors), and creditors have to factor in the risk that they could lose all or most of their investment should their debtors go bankrupt.
I will be writing almost exclusively about United States bankruptcy. That is where I live and is probably where the majority of bankruptcies in the world occur. We are a risk-taking lot, and we save little and spend much. Our advertisers tell us to spend our way to prosperity, and the government tacitly agrees. We get credit card offers continually in the mail, and via advertising elsewhere too. School children are on the marketing lists as potential credit card owners. It will “teach them how to manage their money responsibly”.
So it is no wonder that over one million personal bankruptcy filings will occur in 2008. I suspect, given the current pessimistic outlook on the economy, that 2009 will be a banner year for bankruptcies.
Generally, people feel very negatively about bankruptcy. It means financial failure, and we hate failure. Also, we feel obligated to repay a debt that we initiated ourselves. So bankruptcy means a moral failure to most people too.
But the financial industry expects a certain number of failures. The have the “Law of Large Numbers” on their side. They can use sophisticated computer models to market their credit cards and loans to specific people, as specific times, with specific rates and terms. They know that in the long run, just like a gambling casino knows that the odds are in their favor, they should come out ahead. That is why you have a credit score kept up to date continually using the information stored in the “big three” credit bureaus: Experian, TransUnion, and Equifax. It is your risk factor. A high number, and you get good deals on credit – low numbers mean you might default. (You can get a free credit report once a year, from each bureau, at Annualcreditreport.com, so actually three free reports a year.)
Corporations get graded too, that is how they get their credit through bond offering. If they have a low rating, they sell “junk bonds”. If they had a good rating, but bad times befall them, and their rating drops, they might get caught in a “death spiral”, where the debts in question are called in as due in full. Then to make payment, they get stuck with laying people off, selling valuable assets, and generally ruining the viability of the corporation. Then they declare bankruptcy. For businesses, bankruptcy might allow restructuring their debts so they can survive as a business, and even thrive again as their market turns around.
If this scenario sounds similar to your personal situation, then “surprise”, you now have “junk bond” status, your assets might need to be sold off to pay your creditors, and you might go down in a “death spiral”. Unless you declare bankruptcy and try to turn your financial situation around.
So do not feel alone. This has happened to others, they recovered, they thrived (eventually, or maybe almost immediately).
Here is a list of over 700 public corporations that have filed bankruptcy in last 20 years.
Here are some notable people who claimed personal bankruptcy:
- Abraham Lincoln (twice)
- Samuel L. Clemens (“Mark Twain”)
- Francis Ford Coppola
- John DeLorean
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