Credit ratings represent an overall assessment that can help predict future financial performance. As with other investing risks, there may be no way to precisely predict default. But with accurate research and analysis, default risk can be managed effectively.
Below is an overview of major financial events that might be considered “default” or could be considered significant financial issues leading to default.
Bankruptcies and Defaults
Most cases of bankruptcy are filed to eliminate existing debts. Below are the three most common chapters of bankruptcy.
This is the most common type of bankruptcy and it involves liquidation of one’s assets. A trustee collects and sells nonexempt property of the debtor and distributes the proceeds to its creditors. This form of bankruptcy cannot eliminate many forms of debt, including recent taxes, alimony, student loans, criminal fines, child support or debts from fraud.
Those who qualify for Chapter 11 bankruptcy will usually maintain possession of assets and continue to operate under the supervision of the court and a creditors committee. A reorganization plan is proposed by the debtor and subject to the approval of the creditors. If accepted, the plan becomes binding. Debts can either be repaid through the sale of assets or through future income.
This form of bankruptcy is most practical for debtors with a regular source of income, unsecured debt less than $336,900 and secured debt less than $1,010,650. The debtor will keep all property and schedule regular payments to a trustee, who will distribute these payments to creditors for three to five years. Repayment plans will pay between 10 to 100 percent of the debt, depending on the types of debt and the debtor’s income.
Secured creditors will continue to receive regular payments separate from this plan, including those for secured mortgages. There are certain types of debt that can be eliminated through Chapter 13 bankruptcy that cannot be discharged though Chapter 7, including recent debt, criminal punishments, and debts from fraud. This chapter also helps to prevent foreclosures and repossession of property being paid with secured debt.