by Hannah White

Created on: July 25, 2011   Last Updated: July 26, 2011

Bankruptcy is the most negative derogatory event for a borrower. For creditors, a bankruptcy filing clearly indicates: the debtor was not creditworthy in the past and did not pay his or her debt obligations.

This intuitive loss of creditworthiness does indeed translate into the quantitative assessment of the borrower’s reliability, the credit score. Experts, including

those at FICO, the company that pioneered the most widely used personal credit measure, the FICO score, agree that the impact of bankruptcy on the credit score will be significant, a drop of 100-300 points.

When trying to understand the impact on a bankruptcy on the credit score, borrowers are especially interested in three key questions: how much their score is expected to drop, how low it can go and how long before they can recover or establish good credit again.

Unfortunately, none of these questions can be answered with accurate numbers. The lack of quantifiable answers is partly because there is a plethora of credit score models used by the various agencies, banks, credit bureaus that are all slightly different and – more importantly – work with protected and secret algorithms. At the same time, credit score models are extremely complex mathematical and statistical models driven by a huge number of factors, so the actual impact of any single factor – such as bankruptcy – depends on the levels and combinations of the other factors, as well. Therefore, what may be a 300-point drop event for one borrower with one set of circumstances may turn out to be a 120-point slide for another one with a completely different set of characteristics.

How much will the credit score drop?

The range between 100 and 300 points has been frequently quoted as the most probable indicator of the expected hit. The interesting question is what causes the drop to be bigger rather than smaller.

Intuitively, the frequently provided explanation that borrowers with a lower pre-bankruptcy score can expect a smaller decrease than those with higher initial scores makes sense. FICO scores, or any other credit score for that matter, can only move within a defined closed range: between 300 and 800 in FICO’s case, putting a floor under all debtors.

Within the not fully articulated, yet somewhat known logic of the scoring system, this is predictable, as well. A higher credit score assumes long, well-established borrowing histories, with optimal mixes of various types of credits and close to impeccable

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