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Although bankruptcy is often the most efficient and practical way to get out of debt, some debtors prefer to avoid that record and work out their debts outside of bankruptcy. There are several alternatives to bankruptcy.
Debt Settlement
If you are in default on your debt(s), you may be able to negotiate a debt settlement agreement with your creditor to pay less than what you owe and write down the rest. Creditors recognize that they may obtain a judgment against the debtor, but the likelihood of collecting on that judgment and the costs incurred in obtaining the judgment may not be promising, especially if the debtor files bankruptcy. In Chapter 7 bankruptcy, most unsecured creditors do not get paid. That’s why Debtor’s financial situation will often dictate if and how much the creditor will agree to reduce. Also, the debtor must be in default for the creditor to be amenable to accept less than what is owed. Obviously, if the debtor is current on the obligation, the creditors’ risk of getting nothing is low. The risk goes up, and so does the creditor’s willingness to accept less, when the debtor defaults and there is an impending bankruptcy.
Debt settlement comes with disadvantages. The amount the creditor writes off is considered taxable income and the debtor must report it on his/her tax return. Also, the amount written off will be reported on the debtor’s credit report for 7 years, which will lower the credit score. On the other hand, debt settlement may be a better option to bankruptcy if the debtor wants to settle only a few debts he/she cannot afford while paying the rest. Debt settlement can also be worked out as a payment plan over 2-3 years.
Debt Consolidation v. Debt Settlement
Debt consolidation is a structured principle repayment plan – you take out a new loan with a lower interest rate to pay off your debts with a higher interest, such as credit cards, over 3-5 years. Debt consolidation enables you to repay the full amount of your debts faster than by making payments to individual creditors thanks to much lower interest rates offered for such loans. Also, debt consolidation may reduce your monthly payment and improve your credit score if you make your scheduled payments on time over the course of the repayment plan.
On the other hand, debt settlement offers a principle reduction in exchange for a lump sum payment to each creditor. Unlike debt consolidation, debt settlement may result in negative impact on your credit, as well as you will have to pay taxes on the forgiven debt. Also, for creditors to consider debt settlement, you generally must be several months behind on your payments. Even then, there is no guarantee that a creditor will agree to accept an amount lower than the debt.
Bankruptcy v. Debt Settlement
Whether to file bankruptcy or settle a debt depends on individual circumstances of each case. However, since both options will negatively affect a debtor’s credit rating, very often bankruptcy is the best solution when the debtor qualifies for bankruptcy. First of all, bankruptcy is an expeditious and somewhat predictable legal process, whereas there is no guarantee that a creditor will agree to accept less and the debt settlement process may take months to years. Additionally, by filing bankruptcy, a debtor will not face tax liability for discharged debt, whereas with a debt settlement, the debtor will have to pay a portion of the debt, the income taxes on the forgiven amount, and the attorney fees.
Debt settlement may be a better solution for a debtor who qualifies for bankruptcy, but has assets substantially in excess of the allowed bankruptcy exemptions. Debt settlement may also be a better option over bankruptcy for debtors who want to settle only selective debts, or who do not want to have a record of bankruptcy.
How can we help?
There are a lot of companies that offer both debt consolidation and debt settlement. Whether you choose debt reduction or debt consolidation plan, beware of spam that some debt relief companies engage in. Before you choose a debt relief agency, do your research and read all disclosures carefully for hidden fees.
We have successfully negotiated debts with lenders for 25% to 80% of what the owed amount. We can evaluate the individual circumstances of your case to work out the best strategy to resolve your financial liabilities. Call us now for a free initial phone consultation to discuss your options. (386)-248-3000.