Finding a Bankruptcy Alternative
Filing for bankruptcy, either for Chapter 7 or for Chapter 13, is one option available to solve debt problems. Depending on the circumstances, the debtor may also choose a bankruptcy alternative. The following are possible choices.
One bankruptcy alternative is to combine debt. Sometimes it is easier to repay debt when only one payment to one creditor is necessary. The following are some different debt consolidation options:
- Use a debt consolidation loan: Debt consolidation combines separate debts into one loan. A debtor still owes the same amount of debt, but the interest rate and the monthly payment are typically lower than separate payments to separate creditors.
- Transfer debt to a low interest credit card: Some credit card companies offer low transfer rates to new customers. When the transfer terms keep the interest rate low until the full repayment of the debt, the debtor will pay less interest over the term of repayment. The advantages are similar to a low interest loan.
- Consolidate with a home equity line: When a debtor has equity in their home, a home equity line is a good way to consolidate debt into a low interest and potentially tax deductible loan. It is important to be cautious when securing a loan against property, though, because if a debtor defaults on the equity line, the lender may have a right to repossess the property. This is an effective option in a strong real estate market.
Work With Creditors to Create a Repayment Plan
Another bankruptcy alternative is to ask creditors to agree to a repayment plan. Many creditors will consent when bankruptcy is the only other alternative for the debtor. The possibility of a debtor filing for bankruptcy will motivate some creditors to agree to lower the monthly payment, create a long-term repayment plan, or reduce the interest rate or the debt. This is a much better option for the creditor than if the debtor has the debt discharged in Chapter 7 bankruptcy or placed in a court-approved repayment plan in a Chapter 13 bankruptcy.
See also Dealing with Creditors Informally.
Create a Debt Management Plan
If it is difficult to negotiate with creditors, a credit-counseling agency can work on behalf of a debtor to create a debt management plan. The agency will create a repayment plan based on the debtor's income and debts. If the creditors agree, the debtor will make one monthly payment to the agency. For a fee, the agency will disburse the money among the debtor's creditors until full repayment of the debt. A conflict of interest may exist, however, since many debt-counseling agencies receive the majority of their funds from creditors.
A debt management plan does have some disadvantages. If a debtor misses a payment, any creditor can terminate the plan. If, on the other hand, a debtor misses a payment under a Chapter 13 repayment plan, the debtor receives protection from a creditor's collection activities. Additionally, under Chapter 13, the debtor usually pays only a portion of the debt owed to unsecured creditors, while the debtor must repay the full debt owed in a debt management plan. There is one significant disadvantage to filing for bankruptcy, however: a bankruptcy will stay on a debtor's credit record for up to ten years.
See also Debt Management Plans.
Default on the Debt
If a debtor has nothing left that is valuable, such as property or income, another bankruptcy alternative is simply to stop paying creditors. A creditor can attempt to collect the debt, but they must abide by the Fair Debt Collection Practices Act and applicable state laws. Creditors may not engage in abusive behavior, such as calling numerous times per day, using deceit to collect a debt, or calling during times prohibited by law. If a creditor's actions violate the law, the debtor may seek monetary damages.
Creditors may also attempt to collect a debt through a court judgment. If the debtor has no assets or only has "exempt property", however, then the debtor is "judgment proof." Exempt property may include clothing, furniture, Social Security, and public assistance benefits. Consequently, a creditor cannot legally collect the debtor's property to fulfill the judgment. Typically, a creditor will not sue a debtor when it is impossible to collect the debt. Instead, the creditor may choose to write off the debt as a business loss. The default may remain on the defaulter's credit record for up seven years, though.