Financial troubles and marital troubles often go together. A strain on your bank account can often cause a strain in your relationship, and vice versa. Additionally, the legal costs of a divorce, along with child support and alimony, can add even more financial pressure on one party or the other.
Therefore, bankruptcy and divorce filings sometimes go hand in hand. So, here's what you need to know about how those filings can affect each other.
People often file for bankruptcy to discharge their debts. And the debts you incur during marriage - and the property you've acquired that creditors will use to pay them off - can be treated differently depending on where you live.
If you live in a common law property state, debts incurred by one spouse are separate from the other spouse. Therefore, filing for bankruptcy while married likely won't affect your spouse's credit. Similarly, property acquired during the marriage will also be separate, so creditors might not be able to seize your spouse's or joint property to satisfy outstanding debts.
In community property states, on the other hand, spouses equally share all property and debts acquired during the marriage. So, your creditors may file claims against any joint property you own with your spouse in a bankruptcy proceeding.
Creditors will often target cash and personal property to satisfy debt. And while your income may be considered separate property in a common law property state, your cash or savings could be subject to creditors in a community property state, even if you keep it in a separate bank account from your spouse.
The largest asset a married couple owns together is often their home, which makes it an ideal target for creditors. However, there are exemptions most people can claim during a bankruptcy that would protect a marital home. So-called "homestead exemptions" vary from state to state: Some states provide little or no protection, while others provide nearly complete protection under the right circumstances.
Therefore, even if only one spouse files for bankruptcy, creditors might be able to reach the family home to satisfy outstanding debts, depending on state homestead exemptions.
Separating couples often take on the additional costs of obtaining a new residence, moving personal belongings, as well as attorney fees, all on top of their normal monthly bills. Normally, each spouse will be responsible for any new debt incurred during or after separation. However, if either spouse continues to use joint credit cards or accounts, those costs can become joint debts.
They say timing is everything. So, if you and your spouse are considering both bankruptcy and divorce, which should come first? It depends on your particular financial circumstances.
If you think both you and your spouse will need to file bankruptcy, you may save money by filing first. The fees for filing a joint bankruptcy are the same as filing for an individual bankruptcy, so you could reduce your future court costs by getting the bankruptcy out of the way.
And if you foresee needing legal assistance, hiring one attorney to handle a joint bankruptcy might be less expensive than hiring two lawyers after the divorce. Just make sure to tell your bankruptcy attorney about your upcoming divorce to avoid any conflicts of interest.
And, as we noted above, certain bankruptcy laws protect property from creditors who want to liquidate it to satisfy your debt. A few states even allow married couples to double their exemptions if they file jointly. Therefore, a joint bankruptcy filing preceding your divorce may allow you to protect more of your property.
Be aware, however, that bankruptcy filings can have a significant impact on pending divorce proceedings, not to mention you or your spouse's credit.
On the other hand, filing for divorce before bankruptcy might be beneficial for high-income spouses. Your income must be below a certain amount to qualify for Chapter 7 bankruptcy. And courts will use your joint income to determine your eligibility if you file before your divorce. So, you may have a better chance of qualifying for Chapter 7 bankruptcy based on your individual income following your divorce.