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If you’re struggling to pay your bills on time, you might have started hearing and reading a lot of confusing and scary-sounding words. However, it can sometimes be difficult to understand exactly what those words mean – “insolvency” and “bankruptcy” are two terms with negative connotations that are often taken to mean the same thing, but which are actually completely different.
This article examines the difference between insolvency and bankruptcy and what being in each state means for your personal finances.
Insolvency is an inability to pay your debts when they are due. In other words, while insolvency might sound complicated and intimidating on the surface, it’s actually a state many of us have been in at one time or another. In fact, recent statistics have shown that personal insolvency is on the rise in Australia, with an increase of 8% in the September 2017 quarter compared to the same quarter the previous year.
Insolvency has many causes, such as if you have a major bill crop up unexpectedly or if you’re made redundant and unable to find work for a temporary period. However, while it can be a temporary situation for some people, insolvency can soon lead you into much deeper financial trouble if it isn’t quickly addressed.
Bankruptcy is a legal process for people who are unable to pay their debts. If you apply for bankruptcy, you’re absolved from paying your debts.
However, being declared bankrupt has serious consequences for your financial future and bankruptcy remains on your credit file for five years.
The biggest difference between these two terms is that while insolvency refers to a personal financial situation, bankruptcy refers to a legal state. If you’re insolvent, you’re simply unable to pay your debts on time. If this is the case, it’s important to look at the actions available to address your insolvency – and bankruptcy is one of those options.
In fact, bankruptcy is often referred to as an act of insolvency and declaring bankruptcy releases you from your debts. There are two ways you can be legally classified as bankrupt – you can declare yourself bankrupt, or one of your creditors may apply to a Bankruptcy Court to have you declared bankrupt.
However, bankruptcy is not a “get out of jail free” card and can have a significant impact on your ability to access credit for the rest of your life.
If you can’t pay your debts on time – if you’re insolvent, in other words – there are several options you can choose from to help get your finances back on track. The first four potential solutions are formal options made available under the Bankruptcy Act 1966:
You also have the option of contacting your creditors directly to try to come to some sort of informal arrangement for the repayment of your debts. This could involve requesting more time to pay, negotiating a smaller lump sum payment to settle your debt, or setting up a more flexible payment arrangement.
The consequences of insolvency vary depending on the seriousness of the situation and the action you take. Missed and overdue payments are recorded in your credit file and can have a negative impact on your credit score.
Other actions can have much more serious long-term ramifications:
This varies depending on your personal situation and your plans for the future. Seek expert financial advice before deciding on any course of action.
You can seek advice from a financial counsellor. Call the National Debt Helpline on 1800 007 007 to find a financial counsellor in your area.
No. You can become bankrupt owing any amount.
You can download and complete bankruptcy application forms from the Australian Financial Security Authority website. However, make sure you fully understand the consequences of bankruptcy before deciding whether it’s the right choice for you.
This depends on the terms you negotiate with your creditors. However, most agreements tend to be between three and five years.
You can apply for an agreement if you are insolvent and you are in Australia or have an Australian connection (for example, you usually live in Australia).
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