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Insolvency: What Does it Mean and Is It the Same as Bankruptcy?

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What Does Insolvency Mean?

When it comes to financial matters, two words you may have heard are the terms “insolvency” and “bankruptcy.” In fact, it’s a common misconception that these words mean the same thing. That isn’t exactly true. While they are related, they are not the same. You can be insolvent without being bankrupt, but everyone who files for bankruptcy is insolvent.

Insolvency is a financial state where someone is unable to pay their debts to their lenders on time. It means that you can’t meet your financial commitments. If your bills become due and you don’t have the money to pay them, that’s insolvency.

Defaulting on a loan is not necessarily the same as an insolvency. A person can miss payments on a loan and even deal with calls from creditors or collection agencies without being insolvent. To be considered insolvent, you must not financially be able to handle your commitments. This doesn’t mean missing payments, it means not having the means to make these payments no matter how you try.

What is Bankruptcy?

Bankruptcy is a legal process that allows someone who is dealing with insolvency to clear their debts and start fresh. While the term “insolvency” refers to a financial situation, the term “bankruptcy” refers to the process.

In Canada, bankruptcies are administered by Licensed Insolvency Trustees. These are individuals who have received training and are licensed by the federal Office of the Superintendent of Bankruptcy. If you are having financial problems and are unable to pay your bills, meeting with a trustee can help.

When you meet with a trustee, they will review your financial situation and provide you with details on the available options. These options will include insolvency processes (such as bankruptcy) but the trustee may also give you information on other debt-relief options. Trustees are required to provide details on all possible options, not just those that they themselves administer. This is a big difference between Licensed Insolvency Trustees and other debt professionals.

Trustees are required by law to provide information on all the possible solutions.

The Bankruptcy Process

For those who are facing insolvency, filing for bankruptcy is an option. While everyone’s financial situation is different, and while bankruptcy is typically considered to be a last resort, it can be the right option for people in certain situations.

If you decide to file for bankruptcy, the trustee will complete the required documentation and inform your unsecured creditors.

Filing for bankruptcy provides you with legal protection from your creditors. This means they cannot call you, send a collection agency after you, or take any legal action against you to collect the debts. If legal action started prior to filing, it must stop.

  • Bankruptcy and Your Assets

    • Many people are concerned about what will happen to their assets when they file for bankruptcy. This can be a valid concern. While you don’t lose everything you have, you may lose some assets depending on what you own.
    • Each province and territory in Canada allows people who file for bankruptcy to keep certain assets. Generally, these are assets that are required to live a basic life and to earn a living. These are called exempt assets. Each province and territory is different in terms of what assets you can keep.
    • If you own more than what is considered exempt, you may lose these assets unless you can compensate the trustee for their value. The assets will be sold and the funds generated will be distributed to your creditors.
    • Depending on how much you earn, you may be required to make surplus income payments to your creditors.
  • Bankruptcy and Surplus Income

    • The government sets limits for how much a person can earn while in bankruptcy, depending on their family size. If you earn more than this amount, you must make surplus income payments to the Licensed Insolvency Trustee who will distribute them to your creditors.
    • For this reason, you must keep the trustee updated on your monthly income. This means providing the trustee with proof of income on a monthly basis. The trustee will then calculate if you needed to make surplus income payments and how much you are required to.
  • Length of a Bankruptcy

    • Surplus income also affects the length of your bankruptcy. First-time bankrupts who do not have to make surplus income payments can be automatically discharged after nine months. If you are required to pay $200 or more in monthly surplus income payments, your bankruptcy will last for 21 months if you are a first-time bankrupt.
    • Those who file for bankruptcy for a second time can be automatically discharged after 24 months if they do not have surplus income payments and 36 months if they have to make these payments.
    • Those who file for bankruptcy three times or more are not eligible for an automatic discharge and need to apply to the bankruptcy court for a discharge hearing.
  • Bankruptcy and your Credit Score

    • A bankruptcy is noted on your credit report, which can make it more difficult to get a loan. A first bankruptcy remains on your report for six years after you have been discharged. A second bankruptcy remains for 14 years.
    • Once you have been discharged from bankruptcy, you are able to begin rebuilding your financial life. The process of improving your credit score and getting back into a good financial position is a lengthy one, but by following good credit habits and being responsible with your money, you can eventually put yourself in a stronger financial spot.

What Are Other Insolvency Processes?

As mentioned, bankruptcy is not the only option for those who are dealing with insolvency. Another process, one that is also administered by a trustee, is called a consumer proposal.

A consumer proposal is a legal insolvency process where you make an offer to your unsecured creditors to pay them a portion of what is owed. If you decide that filing a consumer proposal makes sense for you, the trustee will review your finances and determine what a fair offer to your creditors will be. This offer will then be sent to all of your unsecured creditors who will vote on it.

If those creditors that are owed the majority of the debt decide to accept the proposal, then all are bound by its terms. This means that, for example, if you owe $30,000 in debt, and a creditor or combination of creditors that are owed at least $15,000 accepts the proposal, then all creditors must agree to the proposal.

Once a proposal is accepted, you are responsible for making monthly payments to the Insolvency Trustee who will distribute them to your creditors.

Since a consumer proposal is a legal insolvency process, you receive the same legal protections with this process as you do with bankruptcy.

Your creditors cannot call, they cannot take legal action against you, and any legal action that has started must be stopped.

There are no surplus income payments with a consumer proposal. No matter what you earn, once the proposal is accepted, your payments do not change. However, you can pay off your proposal more quickly without penalty if it is financially possible for you. A consumer proposal cannot last for more than five years.

A consumer proposal remains noted on your credit report for three years after it has been completed.

How to Deal with Insolvency?

Insolvency can be very difficult to deal with. Not only are there the obvious financial consequences, which can be significant, but it is also very stressful and anxious to be in a situation where you cannot meet your financial commitments. Having to deal with creditors calling, collection agents bothering you, and bills piling up can take a significant emotional toll.

Many people who are struggling with debt, especially those who are facing solvency, have trouble sleeping, eating, socializing, and living healthy lifestyles. While insolvency processes such as bankruptcy can seem scary, and while they certainly have consequences, in many cases it is better to proceed with such a process rather than continue to struggle with debt.

When you file for bankruptcy or complete a consumer proposal, you are putting yourself in a position to improve your financial situation in the future. While your credit report will be affected, and while you will have to deal with the other aspects of these insolvency processes, you will one day be able to start rebuilding your finances. This tends to be a better choice than continuing to struggle with debt.

Many people who struggle with insolvency are unsure of where to turn or what to do. Most people have heard of the terms “personal bankruptcy” and “insolvency”, but many are unfamiliar with the specifics. This means there are many myths and misconceptions about insolvency and bankruptcy.

Since there is a lot of misinformation out there, struggling with debt and insolvency can be very confusing. It can sometimes feel like there are no options. Meeting with a Licensed Insolvency Trustee can help you recognize that there are options available to everyone. The trustee will provide you with information on the possible choices, but they will never pressure you to choose one option over another. It is always entirely your decision as to how you will proceed with your finances.

Most Licensed Insolvency Trustees offer a free consultation. During this consultation, the trustee will give you the information on the possible options and answer any questions you may have.

While dealing with insolvency can be very stressful, it’s important to know that there are processes designed to help. The bankruptcy process, for example, is not designed to punish those who are struggling with debt. This would not be productive. The goal of insolvency processes like bankruptcy is to give people ways to eliminate their debts and put them into positions where they can rebuild their finances.


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