Bankruptcy Alternatives 101

Nobody is eager to file bankruptcy, and for some people struggling with debt there are other viable alternatives. For most people, doing nothing and hoping for the best is not a viable alternative. Still, it’s one that far too many people choose.

While facing financial troubles head on can be difficult and stressful, doing nothing only aggravates those problems. For most people, unaddressed financial issues ultimately reach a point at which they cannot be ignored. In some cases, that means serious crises like foreclosure, wage garnishment that doesn’t leave enough for necessities, or repossession of a vehicle necessary for work.

Therefore, it is essential that anyone who is overwhelmed by debt and without a clear solution in sight explore the options as honestly and objectively as possible and make clear, conscious decisions about how to move forward--whether that means bankruptcy, employing one of the strategies below, or something else entirely.

4 Bankruptcy Alternatives to Get Out of Debt

Creditor negotiation

The first line of defense for many people who are struggling to keep payments current is to negotiate directly with creditors. While many people with past due balances and collection accounts avoid picking up the telephone, this is another situation in which avoidance tends to make the situation worse. Of course, not all creditors and debt collectors will negotiate reasonably. However, it is rarely beneficial to assume the worst without exploring the options.

If you decide to attempt to negotiate with your creditors and debt collectors, it is important to take charge of the negotiation process from the beginning. Negotiating payments on a one-off basis, especially when those discussions are driven by collector-initiated calls, can lead to over committing and leaving other. Higher-priority debts unmanaged. Before reaching out to a creditor or debt collector, rank your debts in order of priority and calculate exactly how much you have to work with on a monthly or lump sum basis.

Drawing on existing assets

It may seem like an obvious solution, and it works well for some people. But, there are pitfalls as well, so employing this strategy requires forethought and some brutally honest math.

For example, a person who has significant equity in his or her home but is struggling with large credit card debt or other unsecured debt may see refinancing or taking out a home equity line of credit as the perfect solution. Paying off those unsecured debts with the equity in your home offers an opportunity to consolidate debts you have been juggling into a single monthly payment, and most likely to significantly lower the interest rate. However, this is typically a good solution only for those who have resolved their financial problems and have sufficient income to feel very comfortable in their ability to keep up the payments moving forward. That's because another effect of paying off credit card debt, medical bills and other unsecured debt with home equity is to convert unsecured debt into secured debt.

That means the risk associated with non-payment skyrockets: defaulting on credit card debt may trigger collection action and even a lawsuit, but defaulting on mortgage debt can lead to foreclosure. This option may also be unavailable to those who are significantly behind on payments or have a significant history of missed payments. Even with substantial equity in a home, it can be difficult or impossible to refinance with poor credit. And, a negative credit history will typically mean a higher interest rate, decreasing some of the savings associated with this strategy.

Debt settlement

Debt settlement tempts many people carrying large balances. The promise of a significant reduction in the amount owed is understandably enticing. However, the debt settlement process doesn't work exactly the way many people assume. Debt settlement companies save up money to negotiate with, and do not attempt to negotiate with creditors until they have collected enough funds to make a lump sum offering. Therefore, accounts continue to accrue interest and late fees and become increasingly delinquent while the debtor is paying into the fund.

During that time, the creditor is free to pass along the account to a collection agency, or even initiate legal action. This can result in serious consequences for the debtor, such as wage garnishment and serious damage to his or her credit report. And, there’s no guarantee that the debt settlement company will be able to negotiate a settlement. In fact, industry success rates are low. One report from the Center for Responsible Lending showed that 54.3% of consumers who enrolled in a debt settlement program in one calendar year had left the program without settling their debts by the end of the following year.

Thus, debt settlement is not a good option for most people. In addition, consumers who choose to work with a debt settlement company must be very careful about the organization they choose to work with. Many debt settlement companies have been sued or sanctioned by consumer protection agencies, and the Federal Trade Commission’s list of individuals and companies banned from debt relief activities includes a number of debt settlement providers.

Debt consolidation

involves taking out one new loan to cover all outstanding debt, with a goal of shifting several high-interest debts with competing due dates into one lower-interest loan. Debt consolidation can lower monthly payments and begin to improve payment history, but consumers considering this option should consider the total long-term cost of the loan rather than just the monthly payment and interest rate. While part of the month-to-month savings may be accomplished by lowering the interest rate, the savings is often partially attributable to a longer loan term. That means that even with a lower interest rate, the consumer may end up paying more total interest in the long run.

But don't be afraid to look to bankruptcy

If debt is spiralling further out of control despite your best efforts, or you’re holding on by juggling late payments and watching balances grow with no end in sight, bankruptcy may be the right option for you. Chapter 7 bankruptcy can eliminate many unsecured debts, such as credit card debt, past-due medical bills, and that mysterious $200 the cable company insists that you owe months after you’ve terminated your service. For those with delinquent secured debt or significant assets, a Chapter 13 repayment plan may offer time to catch up on a monthly basis without constant collection efforts, late fees, and the risk of lawsuits or repossession.

To learn more about whether bankruptcy might be the right solution for you, contact us for a free case evaluation.