"What Are All My Options For Dealing With My Overwhelming Debt?"

May 5, 2012

Thumbnail image for Thumbnail image for question-mark[1].jpgThe inspiration for my blogs come from many sources--reading questions asked on various websites--from callers at the Law Office of Linda C. Garrett, an online virtual law office, providing full-scope and limited-scope legal services in the practice areas of consumer law, mortgages (HAMP), bankruptcy and family-law; and, from other sources. A common question, to which there is a plethora of information, is what are a debtor's options when they have mounting consuming debts? Of course, a debtor has options. The problem, however, is this: what options are right for them! Just as each person is different, so are the options available to them. Let's explore these options.

First, let's breakdown the various options available to consumers:

Types of Debts

First, a distinction needs to be made about the types of debt a consumer debtor may have.

Secured Debts: These are debts secured by some asset or property, for instance a mortgaged is secured by the home; a car loan is secured by the car.

Priority Debts
: Priority debts are not secured debts, but are debts that a bankruptcy court puts above many other types of debts. Types of priority debts include, for example: 1) child support, 2) taxes, 3) spousal support; 4) student loans; and, a few others.

Unsecured Debts: Everything else--credit card debt, personal (unsecured) loans, etc.
Determining the types of debts you have is important. Why? Because the types of debts a consumer has helps to determine the options available to the consumer. For example, let's say that the only debt a consumer has is unpaid 2011 IRS taxes and student loans totaling $45,000. Unless the consumer can prove a "severe hardship" (which is nearly close to impossible due to the rigid standard used by bankruptcy courts), the consumer is unable to discharge the tax debt and student loan debts in bankruptcy.

Types of Options

I have done enough reading on the internet to know that there is enough information available on the internet to cause a consumer to become completely overwhelmed and confused. For example, many websites preach that filing bankruptcy is the only option to ridding the consumer of their debts; while other sites, recommend and encourage non-bankruptcy options. Below, is a brief overview of the options--to include some of their pros and some of their cons--as no option is perfect:

1. Do nothing. Believe it or not, this is an option. In some situations, the creditor does nothing. And in many cases, misses the deadline to file a lawsuit. In California the deadline (legally known as the "statute of limitations") is four years. Many a creditor has missed the deadline. If missed, the law prohibits the creditor from filing a lawsuit--and if they do file the lawsuit, the consumer-defendant has a legal basis to ask the judge to dismiss the case! And the net effect of this is that the consumer-defendant pays nothing.

2. Consolidate debt. This is a process in which a consumer asks (hopefully a non-profit) agency to assist them with consolidating their debts. The assigned counselor then works with the consumer and the consumer debtor sets up a payment plan, up to four years, to pay the debt. This option is less expensive than the consumer paying money directly to the creditors because the counselor is able to negotiate the interest rates to either a very low interest rate, e.g. 5%, or to zero. The interest rate stays reduced subject to the consumer fulfilling and completing the terms of the agreement. There is usually a modest fee that the consumer pays per month; however, on balancing the overall savings, the monthly fee is usually worth it. The pros: 1) no bankruptcy; 2) significant savings from reduced interest rates; 3) elimination of debts after paid through the installment plan Cons: The main consequence: debtor unable to complete the plan for any number of reasons and problem not resolved.

3. Debt Settlement: This is where the consumer, on his own, or through a for-profit agency, settles the debt with the creditor. Specifically, the creditor or debtor makes an offer to the other party and they reach an agreement for the debtor to pay a reduced "settled" payment. Like all options, there are pros and cons to this option. The pro of settlement is that the debt is paid at a fraction of the original amount--as much as a 90% discount! (Rare, but it happens!) Debt settlement is available for all debts--including State and Federal taxes! These days, even the IRS is willing to negotiate and settle debts. Cons: forgiven debt may be subject to taxes if consumer is solvent. (If insolvent, then no taxes!); the creditor misrepresents the consumer and does not forgive the balance and files suit against debtor for the balance; 3) if using a debt-settlement company--risk lawsuit; and risk defaulting on payment plan--resulting in consumer debtor losing approximately 20% of the money he paid to the debt-settlement company.

4. Written letters to creditors that debtor is insolvent and judgment proof. Pros: if judgment-proof letters well written, and consumer debtor is, indeed, judgment-proof, good chance the creditor will note the case as a "hardship" and cease all collections efforts. Also, letter can include "cease and desist" order--to stop the nasty calls and letters from the debt collectors! Con: letter poorly written or party not judgment proof and creditor continues with collections.

5. Bankruptcy: Chapter 7 or Chapter 13: Almost every bankruptcy attorney will tell you this is not only the best, but only option to resolve the financial problem. Let's break these two chapters down:

Chapter 7: Goal: Pros: discharge all debt and have a fresh start. Cons: 1) not available if consumer does not qualify for Chapter 7 bankruptcy; 2) not available if debt is child support, IRS taxes, student loans or other priority debts; 3) expensive: usually $1,500, not including court fees or debt counseling; 4) can cause damage in certain situations, e.g. consumer intends to serve in some fiduciary capacity in the near future (e.g. trustee, guardian of estate, conservatorship of an estate, and so on), intend to apply for certain jobs, e.g. sheriff, policeman, fireman; 5) has a job with a high-security clearance that would be adversely affected by a bankruptcy; or, person is self-employed and in a business that would hurt his business and reputation, e.g. financial planner, financial coach, etc.; 6) can interfere or cancel a trial modification or loan modification application submitted prior to filing for bankruptcy.

Chapter 13: Pros: same as above; Cons: Same as above to also include that Chapter 13 more expensive, about $2,500 (not including motions), and about 90%-95% of Chapter 13 repayment plans fail! (There are many sources on the internet regarding this failure rate. Don't believe me, check for yourself.)

I could write an entire blog (and in some cases, a book) on each of the options listed above. The only goal in this blog post is to identify the options.

So, what is a person to do when they have consumer debt that is out of control. First, start with this thought: no option is perfect for everyone. If someone says "bankruptcy is the only option" then run in the other direction -fast! No-one--not a friend, not a bankruptcy lawyer, financial planner can know your situation--only you know your financial situation and the personal situation that got you to where you are at this point.

The reasons there are many options is because there are many different situations. Consider the following fact pattern:

Consumer has $100,000 in consumer debt. Now, let's consider a few scenarios by adding to the facts that can affect the consumer's options:

1. Consumer has a good-paying job and the debt is IRS debt that is 10-years old. In this situation, besides filing bankruptcy, Consumer might consider not filing bankruptcy and directly settling the debt with the IRS;

2. Consumer is 68 years old, receives only Social Security income that the Social Security Administration deposits directly into the consumer's bank account--has no home and has no job. If you were the creditor and you knew you could not touch the Social Security deposits, the consumer had no job (to garnish wages) and no house (to put a lien on), would you expend lots of time and energy trying to collect on the debt--IF the consumer proved these facts to you in advance?

3. Consumer's debt is all student loan debt. In 2011, Consumer hit by a hit-and-run driver and caused the consumer to become permanently disabled, preventing the consumer from ever working again. Consumer's only source of income is SSI (which is exempt from collections). While discharging the debt through bankruptcy is an option, the consumer can also have the debt discharged outside bankruptcy because all they would need to do is prove they are disabled! No bankruptcy; no legal fees, no hassles.

I hope you can now see that there is no one perfect solution. The "solution" needs to fit the facts of the person's situation.

Need Help?

As a consumer, bankruptcy, family law lawyer and Candidate Certified Financial Planner, I am able to conduct a thorough review and analysis of your entire situation, in order to allow you to make an informed decision regarding your best option--based on your unique facts. At the Law Office of Linda C. Garrett, the only time I recommend bankruptcy is when it, truly, is the only option or the last option--after the client has first tried and exhausted the other non-bankruptcy options. What makes me unique is that I have the training and experience to assist my client no matter what the assessment. For example, if I assess, after completing a financial analysis that the consumer is truly "judgment proof ", I am able to provide coaching (or if requested, assistance) in connection with preparing their judgment-proof letters; if the best initial option is debt settlement, then I am able to provide coaching for the consumer to negotiate directly with the creditor, or if requested, negotiate on behalf of the consumer; and, if all options fail, coach a consumer on their bankruptcy filing, or filing the bankruptcy petition on behalf of the consumer. I do not believe that "one size fits all" and neither should you!

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