How to Know if Filing for Bankruptcy is the Right Decision

When you’re overwhelmed with debt, it’s easy to view your financial situation as a worst-case scenario. It can be difficult to see a clear path forward, and sometimes, bankruptcy might seem like the only option. The truth is, many discover they have more options than they first realize, and bankruptcy isn't always the best solution.

Bankruptcy is one of several debt relief tools in Canada. While it can provide a fresh start, timing matters. Understanding when to file, when to wait, and what alternatives exist helps you make the right decision for you.

Signs It Might Be Time to Consider Bankruptcy

If you're seriously considering bankruptcy, you'll need to work with a Licensed Insolvency Trustee (LIT).  But first, here are some warning signs to help you determine if bankruptcy is a viable option for you. 

Warning Signs Your Debt Has Become Unmanageable

“For most Canadians, the first signs of insolvency are when they can only afford minimum payments or no payment at all,” says Mike Bergeron, Counselling Manager at Credit Canada. “Over time, this leads to rising balances and difficulty maintaining basic expenses.”

Financial Red Flags: 

• You’ve experienced major income loss from job loss or illness 
• You’re making payments, but your debt isn't decreasing
• You’ve maxed out your credit with no available borrowing room
• You’re missing payments on credit cards, loans, and/or bills
• You’re taking payday loans or other short-term, high-interest loans to cover expenses
• You’re relying on credit for groceries, gas, and other essentials

Legal Red Flags:

• You’re receiving constant collection calls and letters
• You’ve been threatened with legal action, lawsuits, or wage garnishment
• Your bank account has been frozen, or you’ve received a court judgment
• You’ve received repossession and/or foreclosure warnings

Emotional Red Flags:

• You feel overwhelmed or anxious about managing your debt
• You avoid checking your mail or answering calls for fear of creditor contact
• You are going through a divorce, separation, or common-law separation

When Filing for Bankruptcy Might Be the Right Decision

Bankruptcy may be appropriate when other strategies no longer offer a path forward:

If Debt Payments Exceed Your Income

If monthly debt payments (excluding mortgage or rent) exceed what you can afford, bankruptcy may provide relief. For example, owing $50,000 and paying the minimum monthly payment of $1,500, but only having $2,500 in take-home pay. In this case, there would only be $1,000 left over to cover all other monthly expenses, which may not be realistic or sustainable, and doesn't leave room for emergency savings.

If You Can't Repay Debts Within a Reasonable Timeline

Even with reduced interest, if repayment would take more than five years, it’s a sign that your debt is unmanageable.  Filing for bankruptcy or a consumer proposal may be a more appropriate solution for you. 

If Legal Action Has Already Begun

If creditors have started legal proceedings, such as wage garnishment, bank seizure, or repossession, filing for bankruptcy stops these actions immediately.

If High-Cost Credit Is Creating a Cycle of Debt

If you’re trapped in a cycle of taking out payday loans or relying on cash advances to make your minimum monthly payments, bankruptcy can break this pattern.

Timing Your Bankruptcy Filing: What to Consider

It’s not always easy to know when to file, but timing can make a big difference.

Bergeron says the most common timing mistake he sees is Canadians delaying to protect their credit, since filing for bankruptcy significantly impacts their credit score in the short term: “They delay bankruptcy by consolidating debt or taking on additional loans. Unfortunately, these actions often worsen their financial situation and delay both financial recovery and their overall mental well-being.”

Speaking with a Licensed Insolvency Trustee (LIT) or a certified Credit Counsellor can help you understand the best timing for your bankruptcy, how it could affect your family or spouse, and how to protect your legal and financial interests.

Tax Refunds 

Filing for bankruptcy early in the year (January–March) can affect your tax refunds. Any unpaid tax refunds for the year of your bankruptcy and at least one year prior can be claimed by your LIT and used to repay your creditors. 

Urgent Legal Action

If creditors have obtained a judgment, started garnishing your wages, or frozen your bank account, filing for bankruptcy triggers a stay of proceedings that stops most collection actions right away. The sooner you act, the more protection you may have from further financial damage.

Recent Financial Activity

If you’ve recently made large purchases, taken out cash advances, or transferred assets to someone else (like a family member), those actions may be reviewed by your LIT. While not automatically fraudulent, any transaction that appears to reduce your assets before filing may be reversed or challenged. It’s important to be transparent with your LIT. They will help you understand what’s allowable and what could cause issues.

Employment or Income Changes

Your employment status affects your bankruptcy. If your earnings are above a certain income threshold set by the government, you may be required to make additional payments, known as surplus income payments, to your LIT during your bankruptcy. For example, if you have a monthly surplus income of less than $200, you are not required to pay any additional amount. If you have a monthly surplus income equal to or greater than $200, you are required to pay 50% of the monthly surplus income.

Although there are situations where waiting to file for bankruptcy makes sense, waiting too long can lead to more stress, higher costs, or fewer options. “Ongoing debt payment costs can sometimes exceed the cost of filing, and filing may create positive monthly cash flow for financial stability,” Bergeron says.

Key Factors to Consider Before Filing

If Your Debt Is Mostly Non-Dischargeable

Bankruptcy doesn't discharge all debts. For example, student loans less than seven years old, child support, alimony, and certain government debts cannot be included in a bankruptcy. If these make up most of your debt, bankruptcy may not provide you with the debt relief you’re looking for.

If You Own Assets You Want to Keep

Bankruptcy may require surrendering certain assets. If you own a home with significant equity or you have valuable property you wish to protect, a consumer proposal might be a better option.

Second Bankruptcy Rules

Filing for bankruptcy a second time comes with stricter rules and longer consequences. If it’s your second bankruptcy, your discharge period typically increases from nine to 21 months (for a first bankruptcy) to 24 to 36 months. 

In addition, a second bankruptcy stays on your credit report for 14 years from the date of discharge, compared to six or seven years for a first-time filer.

Joint Debts

Filing for bankruptcy doesn’t remove a co-signer or joint account holder’s responsibility for the debt. If someone co-signed a loan or credit card for you (or if you have a credit card with someone else), they’ll still be fully responsible for the remaining balance, even if you declare bankruptcy. The co-signer’s credit will also be impacted. 

Divorce

Joint debts, shared assets, and legal separation proceedings may affect your financial obligations and what your LIT  can include in your bankruptcy.

Immigration Sponsorship

If you've sponsored someone for immigration, a bankruptcy filing doesn’t cancel your sponsorship responsibilities. You're still legally responsible for supporting the individual you've sponsored, regardless of your insolvency status.

Bankruptcy Alternatives To Explore First

Before filing for bankruptcy, explore these bankruptcy alternatives:

• A debt consolidation loan combines multiple loans into a single loan payment with a lower interest rate. While it doesn’t reduce the total amount you owe, you can usually save money in the long run.
• A Debt Consolidation Program (DCP) consolidates your unsecured debts into a single monthly payment without taking out a new loan. It helps you pay off all debts included in the program, with reduced (or no) interest and a clear repayment timeline.
• A consumer proposal allows you to repay a portion of your unsecured debt, usually over a period of up to five years, based on what you can reasonably afford.
• You can contact your creditors directly to negotiate a lower interest rate or reduced payment; however, creditors aren’t required to accept your request.

Comparing Debt Relief Options (At a Glance)

How Bankruptcy Affects Your Credit

Bankruptcy has the most significant impact on your credit score and credit report. A first-time bankruptcy stays on your credit report for six to seven years after discharge. If it’s your second bankruptcy, it stays on your credit report for 14 years after discharge and may make future borrowing more challenging.

In the short term, your credit score will drop, and access to new credit, loans, or mortgages may be limited. Some lenders will require higher interest rates or secured credit products. While rare, certain employers, particularly when hiring for financial or security-sensitive roles, may check your credit report as part of the hiring process.

Talk to a Credit Counsellor Before Making a Final Decision

If you're considering bankruptcy, you don’t have to decide on your own. At Credit Canada, our certified Credit Counsellors offer free, unbiased, confidential consultations to help you understand all your options.

We’ll review your situation and help you explore solutions like bankruptcy, a Debt Consolidation Program (DCP), a consumer proposal, or other forms of debt relief based on what’s right for you. There's no pressure and no obligation to move forward with any option.

If you’re ready to talk, we’re here to help. Call us at 1 (800) 267-2272 to get started. Or, if you’d prefer to explore at your own pace, you can chat with Mariposa, our AI-powered debt management agent, to get personalized advice when it’s most convenient for you.

Frequently Asked Questions

How Do I Know if I Am Officially Considered “Insolvent”?

In Canada, you're legally insolvent if you owe at least $1,000 and can't pay debts as due, or if liabilities exceed assets. A Licensed Insolvency Trustee (LIT) can assess your situation.

Should I File for Bankruptcy Before or After My Wages Are Garnished?

If your wages are already being garnished, filing for bankruptcy can stop the garnishment right away. The sooner you act, the more of your income you may be able to protect.

If a garnishment has only been threatened, you may still have time to explore other debt relief options.

Is It Better to File for Bankruptcy Before Tax Season or After I Receive My Refund?

In most cases, it's better to wait until after you’ve received your tax refund before filing for bankruptcy. Any unpaid tax refunds for the year of your bankruptcy and at least one year prior can be claimed by your Licensed Insolvency Trustee (LIT) and used to repay your creditors. 

What Happens if I Wait Too Long to File for Bankruptcy?

Delaying bankruptcy can make things worse. Interest keeps adding up, creditors may take legal action, like wage garnishment or freezing your bank account, and you could lose access to other debt relief options. 

Can I Choose Between a Consumer Proposal vs Bankruptcy, or Does a Trustee Decide?

You make the final choice, but a certified Credit Counsellor or Licensed Insolvency Trustee (LIT) can help you understand which option best fits your situation. If you have a steady income and can afford to repay part of your debt, a consumer proposal may be a better alternative. If repayment isn’t realistic, bankruptcy might be recommended.