Difference Between Insolvency and Bankruptcy

Difference Between Insolvency and Bankruptcy

When two words share similar meanings, many speakers use them wrongly. Indeed, there are many words that share similar meanings in English; these are called synonyms. Now, we will dissect the difference between insolvency and bankruptcy in order to help people, who still struggle with their disparities, understand it. You may now ask: what is the difference between insolvency and bankruptcy? Well, just continue reading to learn the difference between bankruptcy and insolvency.

Definition of Insolvency

To help you perfectly grasp the definition of insolvency, we launched extensive research into the subject. From our findings, insolvency is the state in which an individual or organization is unable to live up to its financial obligations. In the business world, it is seen as a situation where an entity is unable to make or raise funds and pay for debts that are already due. There are any factors that can make someone or company to face the challenge. These are increase in expenses, poor cash management and reduction in cash flow.

When a company or individual is this state, they are said to be in a financial distress as they are unable to keep their financial obligations to lenders. This condition is capable of leading to court action against the defaulter. Well, when the proceedings are set in motion, the defaulter’s assets could be sold off to pay off the outstanding debts.

Essentially, it is of two main types. Firstly, cash-flow, which happens when the debtor is unable to pay the money because they don’t have it. Secondly, balance-sheet, which is a situation where the debt exceeds financial worth of the debtor’s assets. Contrary to popular opinion, solvency does not mean bankruptcy. Now, we look at the other word. 

Definition of Bankruptcy

Well, bankruptcy is a court order that details how a company or individual should pay his creditors. In some cases, the debtor files a petition to kick off the process. In a bid to repay part of the amount the debtor owes, his assets is valued and sold off. Today, it has many applications. To help you understand the definition of bankruptcy better, we will look at some of its uses.  

Basically, it enables an individual or company to start all over again as the debts are forgiven and creditors are paid based on the amount raised after selling off the debtor’s assets. Also, in the United States, for instance, federal courts entertain it by determining if a debtor is eligible to file it. That said, bankruptcy comes in many different types.

According to the law, it is possible for someone or company to be insolvent without being bankrupt, but it is possible for someone or company to the bankrupt without being insolvent. The reason is that insolvency culminates in bankruptcy.

Also, debtors solve it in two ways. Firstly, reorganization method, which is a situation where a debtor restructures his repayment plan in the hopes that he could pay the debt or bill. Also, there is liquidation method, where the debtor details how he will sell off his assets to pay a debt or bill.  

Insolvency vs Bankruptcy Comparison Table

We will summarily differentiate between the two terms using a table as seen below.

Basis of ComparisonInsolvencyBankruptcy
MeaningAn individual’s or company’s inability to pay their debtAn order that details how a debt should be paid
State Financial distressCourt order or legal state
StakeholdersDebtor and creditorCourt (the law), debtor and creditor
SolutionBankruptcyReorganization and Liquidation

Conclusion of the Main Difference Between Insolvency vs Bankruptcy

In this piece, we brought insolvency vs bankruptcy into context as many people don’t seem to know the difference between the two words. There are countless number of occasions where people used them interchangeably, which is completely wrong anyways.

After going through this piece, we strongly believe that you can differentiate between the two words. It’s noteworthy that there are two ways bankruptcy is declared: You can declare yourself bankrupt or your creditors will do so. To do that, they will file a lawsuit with a relevant court, praying it to initiate the process.

And when the court investigates and honors the request, it will potentially affect the way you access funds from lending institutions for the rest of your life. Despite the disparities between the two nouns, they seem to have some similarities.