So your debt has gone from being manageable to being a real problem. It happens. We all have some debt but occasionally it grows to a point where payments are overly burdensome. Or maybe you were able to handle your debt load just fine until an unexpected life event changed the game on you suddenly.
The reason you may find yourself with too much debt doesn’t really matter – you need a solution.
Unfortunately, there is no one size fits all solution, nor is there a well know brand name trusted resource you can turn to for answers. For instance, when you have a tax question or problem you know you can always go to a local H&R Block office for guidance but there is no such easy resource for debt problems.
There are many questions that need answers in order for you to hone in on a debt solution:
- What type of debt is it?
- Is it secured (like a mortgage or auto loan) or unsecured (like a credit card)
- Are you already behind on payments or about to be?
- What’s the disparity between your income and your debt load?
- What assets do you own (ex- does your home have any equity in it)?
- How important is your credit score to your current situation?
- What state do you live in (laws can vary by state)?
- What are your long term financial goals/needs?
…And many more.
But let’s not get discouraged and start with the basics to finding your debt solution.
In the broadest of terms, there are 3 primary types of debt solutions each with many names and nuances but for the purpose of this article, we will keep it simple. Let’s discuss debt consolidation, debt negotiation, and bankruptcy.
This is the most commonly used term for debt relief but what exactly is “debt consolidation”? Well, there are many ways to “consolidate” your bills into a single monthly payment. The overall objective is to simplify your debt situation, manage it, and try to reduce the overall cost of your debt (interest rates, fees, etc.).
How do you do this? Again it depends on your answers to many of the questions above but generally:
- You leverage a valuable asset you own and refinance it to pay off all other debts leaving you with one primary bill. For instance people consolidate by refinancing their home at a reasonable interest rate and use the value they’ve accumulated in that home to pay off most other bills with higher interest rates (like credit cards).
- If you don’t have at asset like a home you can leverage then you can consolidate debts using a professional service often called a credit counseling agency or debt management firm. These companies as their name suggests, help you consolidate your bills and help you lower interest rates and fees on your monthly balances.
- You are creditworthy enough to get an unsecured (no asset put up as collateral) low interest loan to pay off your high interest loans. With new peer to peer lending websites like LendingClub.com and Prosper.com people with high credit scores and proof of steady income can sometimes use these website to get loans at rates of say 7-12% to pay off high interest debt averaging 16-20% (most commonly credit cards).
A second top level solution to your debt problem is to negotiate it down. The company you owe money to knows that they will loan money to some people who will never pay it back despite their best intentions. Companies that lend money build a default rate into their business models, for them “bad” loans are a cost of doing business.
Life happens and people can’t always pay back what they owe so it’s easy to see how in many situations those lenders are willing to negotiate on those “bad” loans. After all, some repayment of their loan is better for them than none at all.
The IRS even does this with people who owe them back taxes and demonstrate an inability to pay everything they owe. Yes the IRS will negotiate with you and often let you off the hook a portion of the taxes owed.
Finally there’s bankruptcy. This one doesn’t need much explanation other than to say it’s a judge making a decision that you are unable to pay your debts and therefore can be released from liability to prevent further hardship.
However, bankruptcy has many long term negative consequences and also is a much more drawn out and complicated process than it used to be. The laws changed several years ago basically making it harder to quickly escape your liabilities by simply declaring bankruptcy.
So there you have it in its most basic form, the 3 broad based debt solutions – consolidate it to make it more manageable, reduce it through negotiation, or try and get out of it altogether via the bankruptcy courts.