If you’re considering a debt solution to help you get back in control of your finances, you’re no doubt heard about both IVAs (Individual Voluntary Arrangements) and bankruptcy.
Each of these debt solutions has its own pros and cons, and the one that works for you will depend on your unique financial circumstances.
In this guide, we’ll take a more detailed look at bankruptcy and IVAs to help you decide if one of these formal debt solutions is going to help you work towards financial freedom.
What do they both mean?
An IVA and bankruptcy are both ‘formal debt solutions. This means they need to be set up by either an insolvency practitioner (IP) or an official receiver on your behalf. When set up, they are both legally binding agreements, which means your creditors (the companies you owe money to) must deal directly with your representative and cannot take further action against you.
Although they are similar in this way, they are still differences between an IVA and bankruptcy.
How does an IVA work?
An IVA is a plan designed for people in England, Wales or Northern Ireland with unsecured debts they cannot afford. To see if you can set one up, you’ll need to contact an insolvency practitioners’ service and have a detailed discussion with them about your finances.
The IP will look at your incomings and outgoings and help you decide on a figure that you can afford to pay towards the overall amount you owe. They will then go away, try to get your creditors to agree to new repayment terms for what you owe.
Your creditors will be asked to vote on these new repayment plans. If the companies you owe 75% or more of your debt to agree, then the IVA will be set up. You’ll then make monthly repayments to your IP, who will then pay a smaller amount to each of your creditors. The amount you repay may go up or down depending on your financial situation throughout the time you have your IVA.
When you reach the end of the IVA, any debt that is not paid off is written off, and you have a financial new start.
How does bankruptcy work?
A bankruptcy order is a way of dealing with unmanageable debt for people in England, Wales, or Northern Ireland. It’s designed for people who have a level of debt that they feel they cannot repay in a reasonable amount of time.
Bankruptcy is set up and monitored by an official receiver working for the Insolvency Service. This person will take over your finances and bank accounts and look at everything you own to decide what can be paid back or sold to help pay back as much as possible.
When the bankruptcy process is over, any debt that hasn’t been paid back is wiped, and you’re free to start building your financial health again.
How long does an IVA or bankruptcy take?
If an IVA is right for you, the process will typically take between 5-6 years. If bankruptcy is right for you, the process usually takes 1 year – although repayments can sometimes extend to 3 years.
On the surface, this might make it seem like the best option is to declare bankruptcy. However, bankruptcy is a more extreme kind of debt solution as the official receiver will be expected to fully control your finances and possibly sell many of your possessions (including vehicles and property) to make sure you can pay back as much as possible.
If you are found to acted carelessly or dishonestly with money through bankruptcy, the period of bankruptcy can be extended for between 2 to 15 years. In extreme cases, you could even face criminal fines or prison if you’re found to have been dishonest at any point through your bankruptcy.
An IVA is a less restrictive debt solution. Your insolvency practitioner will try to negotiate manageable monthly payments on your behalf and leave you with some spare income so you can continue to lead a fairly normal financial life.
What happens with an IVA or bankruptcy if I own my home?
One of the biggest differences between an IVA and bankruptcy is what happens to any property you own.
If it will help you repay what you owe, the official receiver that’s managing your bankruptcy will sell your home or other properties. The only time this is unlikely to happen is if you have a very small amount of equity in your home (£1,000 or less) or you are in negative equity (i.e. owing more on your mortgage than your home is worth.)
With an IVA, you will not be expected to sell your home. In some cases, homeowners will be expected to re-mortgage if they have equity of £5,000 or more. Of course, it’s not always possible to remortgage, so this isn’t mandatory – but your creditors may ask you to make payments over an additional 12 months if your property cannot be remortgaged but is increasing in value.
Will an IVA or bankruptcy affect my credit rating?
Both bankruptcy and an individual voluntary arrangement will have an impact on your credit score as both will be recorded on an official register called the Individual Insolvency Register. Entries on this registered will also be recorded on your credit file with the main credit referencing agencies.
Although both these insolvency solutions will significantly reduce your credit score, the impact might not be as big as you think. This is because people tend to look at these kinds of solutions when they are already having trouble paying back what they owe – so you may already have defaults, CCJs, and other actions taken against you that have already reduced your creditworthiness.
Both an IVA and bankruptcy will stay on your credit file for 6 years, at which point they will be removed. An IVA could stay on your record slightly longer if it is extended beyond the normal 6 years. You will normally not be allowed to take out further credit while your debt solution is in place – although your IP may authorise certain types of credit during an IVA.
Although 6 years might feel like a long time before you can start rebuilding your credit history, the impact both debt solutions have on your credit score will reduce over time.
Will my work be affected by an IVA or bankruptcy?
Although many jobs are not affected by bankruptcy or an IVA, it’s always important to check your contract or talk to your Human Resources department if you’re not certain.
The kinds of jobs that are affected by a debt solution include:
- Chartered Accountant
- Insolvency Practitioner
- Financial Advisor
- Bank or Building Society employee (specific roles, especially those involving handling money or financial decision-making)
- Company Director
- Member of Parliament (MP)
- Local Councillor
- School Governor
- Police Officer
- Prison Officer
- Solicitor or Barrister (subject to the discretion of the relevant professional body)
- Trustee of a charity
If you feel like your job could be affected, it’s very important to seek debt advice from a professional who will be able to talk you through the options and the possible impact on your life.
What are some pros and cons of an IVA or bankruptcy?
IVAs and bankruptcy have different advantages and disadvantages – so it’s a good idea to look at this in detail.
Pros of an IVA
- Single, affordable monthly payment: An IVA consolidates debts into one manageable monthly payment based on your income and living expenses.
- Legal protection: Once approved, an IVA prevents creditors from taking legal action against you or contacting you directly.
- Fixed repayment period: IVAs usually last for 5-6 years, after which any remaining debt is written off.
- Avoid bankruptcy: An IVA can help you avoid bankruptcy, which often carries more severe consequences and restrictions.
- Confidentiality: Unlike bankruptcy, an IVA isn’t publicly advertised, maintaining a level of privacy.
Cons of an IVA
- Credit score impact: An IVA remains on your credit record for six years, making it difficult to access credit or secure loans during this period.
- Financial transparency: You must disclose your financial circumstances to the IP, who may periodically review your finances.
- Lifestyle adjustments: You may need to cut back on non-essential expenses to make the agreed monthly payments.
- Job restrictions: Having an IVA may prevent you from holding certain positions or jobs, especially those in finance or legal roles.
- Home equity: If you own a home, you may be required to release equity to repay creditors, potentially affecting your mortgage terms.
- Limited debt relief: An IVA doesn’t cover all types of debt, such as student loans, court fines, and child support arrears.
Pros of bankruptcy
- Debt relief: Bankruptcy provides a fresh financial start, as most unsecured debts are written off once the process is complete.
- Creditor protection: After declaring bankruptcy, creditors can no longer pursue you for unpaid debts.
- Limited duration: Bankruptcy typically lasts for 12 months, after which most remaining debts are discharged.
- Defined payment plan: The Official Receiver may set up an Income Payment Agreement (IPA) based on your income and living expenses, lasting up to 3 years.
- Financial counselling: You may receive financial guidance to help you manage your finances better in the future.
Cons of bankruptcy
- Credit score impact: Bankruptcy remains on your credit record for six years, severely limiting your ability to obtain credit during this time.
- Asset loss: You may lose valuable assets, including your home or vehicle, which can be sold to repay creditors.
- Employment restrictions: Bankruptcy may prevent you from holding certain jobs or positions, especially in finance or management roles.
- Public record: Bankruptcy is a matter of public record, potentially causing embarrassment and affecting your reputation.
- Limited debt relief: Some debts, such as student loans, court fines, and child support arrears, aren’t discharged by bankruptcy.
Is an IVA or bankruptcy right for you?
As you can see, we purposefully haven’t said whether an IVA or bankruptcy is right for you because everyone’s finances and personal circumstances are different.
Before you speak to an insolvency practitioner about an Individual Voluntary Arrangement or decide to declare bankruptcy, you should get professional advice on which is going to be the right choice for you.