Bankruptcy vs Insolvency: A Closer Look at the Differences

Do you find yourself worrying about money nearly every day? You’re not alone. Around 44% of Americans say that money is the top cause of stress in their lives, even more than work and relationships.

If you’re dealing with financial distress, it helps to have a better understanding of common terms associated with money problems like bankruptcy and insolvency. So, what do they actually mean? You’re in the right place to learn.

Read through this short guide to bankruptcy vs insolvency to learn more about the differences between them and better learn your options.

What Is Bankruptcy?

While these terms are often used interchangeably, they aren’t the same thing at all. Bankruptcy is a legal process that happens when someone is unable to pay off debts.

You can either choose to file for bankruptcy yourself, or a creditor may file to have you made bankrupt if you owe them money and you cannot pay.

There are different types of bankruptcy filings, based on the specifics of your situation, including:

  • Chapter 7
  • Chapter 9
  • Chapter 11
  • Chapter 12
  • Chapter 13
  • Chapter 15

Each chapter has specific guidelines and some are available to individuals, businesses, or both. Chapter 7 bankruptcy is the most common filing for individuals and businesses. It involves liquidating or selling your assets and distributing the money from the sales to creditors. This leaves you with a fresh slate, essentially, clearing out all of your existing debt and letting you start over.

If you have a steady income, you may be eligible for Chapter 13 bankruptcy, which allows you to develop a payment plan for outstanding debts over a specified time period. Talk to a Chapter 13 bankruptcy lawyer to see if that’s an option for you.

What Is Insolvency?

Unlike bankruptcy, insolvency is not a legal declaration. Insolvency just means that a person or a business is not in a financial position to pay back debts, due to a lack of cash flow. However, just because you’re insolvent doesn’t mean you can get a clean slate without filing for bankruptcy.

The easiest way to remember the difference is that bankruptcy is a legal state, while insolvency is a state of being. A person or company who is bankrupt is insolvent since they can’t make payments to creditors. However, a person or business that is insolvent is not bankrupt by default. They would have to make that legal declaration to be considered bankrupt.

What to Do if You’re Insolvent

If you are insolvent, you should consider speaking to a bankruptcy lawyer to learn more about your options. Depending on your financial situation, it may make sense to file for one of the types of bankruptcies to help you get back on track. Or, you may be able to figure out a solution without having to resort to bankruptcy.

The short answer is that it really depends on your unique circumstances.

Bankruptcy vs Insolvency

After reading this overview of bankruptcy vs insolvency, you have a better idea of what makes them different. Now, you can learn your options and figure out the best way to move forward.

Want to read more finance content like this? Check out our other articles before you go.

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