Ask most people about bankruptcy and you will hear a mixture of facts and common misconceptions. Conversely, if you ask about consumer proposals, you might find that many people have never heard of this popular alternative to bankruptcy. Despite this fact, you might be surprised to know that more consumer proposals are filed than bankruptcies in Canada year after year. The Office of the Superintendent of Bankruptcy publishes regular reports on the number of bankruptcies and proposals filed across the country and the trend of a public favouring proposals over bankruptcies is easy to see. In order to select one option over the other, it is important to understand the reasons that these two debt solutions are as different as comparing apples to oranges.
What is bankruptcy?
Bankruptcy is a formal process that is governed by the Bankruptcy and Insolvency Act. The process is intended to help a person (referred to as a debtor) who cannot meet their financial obligations as they become due. You must owe at least $1,000 of unsecured debt to be eligible to file a bankruptcy. A bankrupt person signs over their assets to a Licensed Insolvency Trustee, with the exception of assets that are exempted by provincial or federal law. Once a debtor has been assigned into bankruptcy, the role of the Licensed Insolvency Trustee is to ensure assets that do not fall under federal or provincial exemptions are sold to repay outstanding debts. A legal stay of proceedings is automatically put into place after the bankruptcy is signed, stopping collection calls, legal actions and wage garnishments.
A bankruptcy typically lasts a minimum of 9 months but can last longer depending on your specific circumstances (which we will discuss in a future blog). Signing the bankruptcy documents is only the beginning of the process. During the bankruptcy, you will be required to complete a specific set of duties to obtain a discharge from the bankruptcy process. At the end of the bankruptcy your Licensed Insolvency Trustee will recommend a discharge status. A bankruptcy discharge concludes the process and it is your discharge that actually eliminates your debts, without the discharge your debts can be revived and your creditors’ rights can be reinstated. We always recommend working closely with your Trustee to ensure that your bankruptcy ends in the shortest time possible. Once the bankruptcy is complete the Office of the Superintendent will notify the credit bureaus of the change from actively bankrupt to discharged from bankruptcy and the reference will remain on your credit report for approximately 6 years (longer in the case of repeat bankruptcies).
What is a consumer proposal?
Similar to bankruptcy, a consumer proposal is also a formal procedure governed by the Bankruptcy and Insolvency Act and the debt(s) included in the proposal are not officially eliminated until the process is complete, but the similarities generally end here. A proposal is a deal that you offer to your creditors and they get to decide if they agree with your terms, reject them or would like to negotiate a new offer. Unlike a bankruptcy, your assets are not signed over to the Trustee and are merely evaluated by the Trustee so that they can be used for comparative purposes. The golden rule of filing a consumer proposal to your creditors is that your proposal must offer more money to satisfy your debts than your creditors would receive if you had filed bankruptcy instead (otherwise why would your creditors want to accept the consumer proposal?).
A consumer proposal is filed when the total unsecured debts owed to creditors does not exceed $250,000. The Trustee will review your assets, income and total debt load to help you create a fair and reasonable offer that will repay a percentage of what is owed to your creditors, interest free, over a specific period of time that does not exceed 60 months (5 years). During a proposal or a bankruptcy you must continue to pay debts (referred to as secured debts) that are linked to collateral such as an automobile or a house (if you wish to keep them). Your collateral-free assets are a contributing factor to consider while determining the right solution for you.
Highlighting the differences
Every situation is unique and because of this a “one size fits all solution” is not recommended when dealing with your debts and creditors. At Chande & Company we tailor debt solutions to your personal situation. We recommend that you wait to make a decision until you have reviewed your specific circumstances with a Licensed Insolvency Trustee such as Chande & Company. Making an informed decision is the best way to ensure that you are making the right decision. Bankruptcy should be viewed as the final solution for most people and we may be able to help you avoid it. Here is an overview of the significant differences between bankruptcies and consumer proposals and the reasons that you might consider one over the other.
Your assets do not vest with your LIT in a consumer proposal. What this means is that unlike bankruptcy, the assets you own will not be sold and they are yours to keep. Instead, your proposal will report to your creditors that the value of your non-exempt and unsecured assets. The report will state that all assets have been reviewed by your LIT and when compared with selling your assets in a bankruptcy, the proposal is offering them more money – without the extra administrative costs of selling your assets (helping creditors to see the value of accepting your consumer proposal and avoiding bankruptcy). For people who own a home or have education savings plans for their children, knowing these assets are safe makes filing a consumer proposal a better option.
Credit Rating and Re-establishing Credit
A bankruptcy filing results in an R9 credit rating, which is the lowest rating reported by Equifax and Transunion (the two main credit reporting agencies in Canada). A consumer proposal results in an R7 rating. In addition to the lighter rating a proposal is reported for 3 years after it is completed rather than the 6 years that a bankruptcy remains on your report after discharge. Many people are able to start rebuilding their credit by obtaining a secured credit card – you can even apply while still making payments to your consumer proposal. In the case of bankruptcy, a person must wait until they have been discharged from the process before they can start to rebuild their credit rating.
You will definitely notice a difference in cost when comparing a bankruptcy to a consumer proposal. A proposal generally reduces your monthly payment amount so that you can spread the total amount over a longer timeframe (a maximum of 5 years or 60 months). Getting your creditors to agree is the first step, but once you have their acceptance your monthly payment amount will be the same until the very end of the proposal. A consumer proposal is a negotiated settlement of debt that you make with your creditors and the goal is to be fair to them in your offer but to also ensure that you can afford the payments so that you will be able to fulfill your end of the bargain. The biggest difference between proposal payments and bankruptcy payments is that bankruptcy payments can change because they are based on your income. While in bankruptcy the more that you earn will increase the amount of money that you will be required to pay. A consumer proposal is almost always the better option when income is a factor and we call this income “surplus income” which we will discuss in a future blog.
Some debtors find the extra “homework” and paperwork in a bankruptcy stressful. While it is true that a proposal costs more and lasts longer than a bankruptcy in most cases, there is not much left for you to do after the proposal has been accepted. The most activity in a proposal occurs during the first 45 days. During this time your creditors will review your consumer proposal and cast a vote to determine if they accept it or not. Both proposals and bankruptcies require two mandatory counseling sessions to be completed but the budgeting and taxation requirements of a bankruptcy do not exist in a proposal.
Employment and other Restrictions
We have already mentioned that there are more rules to follow during a bankruptcy than there are while in a consumer proposal. Some of these rules can have an impact on how you earn your living. Some roles require a background check to determine if you are actively bankrupt and these jobs typically require that you be discharged from bankruptcy to perform certain tasks such as handling or managing money. In addition to certain employment restrictions, business owners need to be aware that they cannot hold the position as director of a corporation while in bankruptcy, and in cases where this is an issue a proposal may be the better solution.
Despite the differences between filing a bankruptcy and filing a consumer proposal, both of these remedies will result in the same basic protection from wage garnishments and the direct seizure of assets by your creditors. Even if a proposal is not an affordable option for you, there may be ways that your Licensed Insolvency Trustee can help you to retain or “repurchase” certain non-exempt assets in the bankruptcy process.
Our next article will discuss everything that you need to know about filing personal bankruptcy in Ontario. If you or someone you know is having difficulty in dealing with their debts, please complete the contact form at the bottom of this page and we will be happy to contact you and start the process of helping you to become debt free.