Which is Worse: Bankruptcy or Foreclosure?

Bankruptcy and foreclosure are two scary words in personal finances that cause fear in many homeowners all across the country on a yearly basis.  Both leave lengthy scars on credit scores for years, and both usually involve losing something – be it a house or other property.

While both are often related to one another – plenty of people who go through foreclosure also declare bankruptcy, for many of the same reasons – some view bankruptcy as worse than foreclosure, or vice-versa. Which one is truly worse usually depends on the type of bankruptcy being pursued.

In foreclosure, the end result is that a person will lose his or her home. The home is sold at auction to pay for the remaining debt, and the person may or may not be free of the remaining balance (what isn't covered at auction), depending on the state in question. If the person lives in a non-recourse state, he or she is generally free and clear, with only a mark on their credit score for seven years. If the person is in a recourse state, however, the lender may sue for a deficiency judgment for the amount.

With a Chapter 7 bankruptcy, the most popular type, the person will lose the house and other possessions, save some exempt properties (usually a vehicle), in order to pay off debt. Mortgage loans are not dischargeable, nor are any back taxes owed. The hit to a credit score last for 10 years too. In some instances, then, bankruptcy may be worse than straight foreclosure.

Of course, a person could also file for Chapter 13 bankruptcy, in which they are allowed to keep their home and pay off debt. This is generally preferable to foreclosure, because the person is allowed to stay in the home, pay off debt, and potentially keep any equity built up in the home.

Circumstances dictate which one is worse. Consulting with a bankruptcy attorney or a financial advisor is always a good idea.