There is no doubt that taking action is the first step toward getting out of debt, but which course of action is best? Those seeking financial freedom are often faced with the choice of debt consolidation or bankruptcy, but there are many misconceptions about both. For example, did you know that (contrary to popular belief) debt consolidation can lower your credit score? Read ahead to learn the pros and cons of debt consolidation and bankruptcy, and decide which is best for you.
Debt Consolidation
Debt consolidation allows you to reorganize all or most of your debts into a single monthly payment. Debt consolidation companies offer you either a secured or unsecured loan and, in turn, pay your creditors.
Advantages of Debt Consolidation
- You only have to keep track of one monthly payment.
- In most cases you will be able to keep access to your credit cards and other lines of credit. Caution is advised, however, because racking up new credit card debt may defeat the purpose of consolidation.
- It is possible to slightly reduce monthly payments.
Disadvantages of Debt Consolidation
Creditors may refuse to settle – if even one of your creditors refuses to participate in a consolidation plan, you may have to find a different option.- Creditors that participate may not be willing to reduce the debt by much. In 2010 the The Association of Settlement Companies found that the average debt was settled for about $0.88 for every dollar owed.
- You might end up paying more money in fees and tax liability than if you had paid the bills directly to your creditors.
- You might lose your property if your home or vehicle was used as collateral for a debt consolidation loan. If there is a cross-collateralization clause, the debt consolidation lender may even be able to take other property that you’ve financed.
- Your credit score may be damaged due to having such a large amount of debt (your consolidation loan) – remember, the amount of available credit vs the amount of credit used is an important factor in your credit score.
Bankruptcy
Bankruptcy allows you to eliminate or restructure certain debts while under federal protection. There are several common types of bankruptcy, most individuals and small businesses file under Chapter 7 and Chapter 13.
Advantages of Filing for Bankruptcy
- Bankruptcy protects you from creditors. The moment you file, the bankruptcy court puts in place an Automatic Stay which prohibits most creditors and collectors from engaging in activity against you. This includes harassing phone calls, lawsuits and repossessions.
- Filing for bankruptcy allows you to start over by eliminating unsecured debts such as medical and credit card bills. It also allows you to surrender real estate or vehicles that you’ve financed if you’d like to relieve yourself of those debts.
- Depending on which chapter of bankruptcy you file for, you may not have to repay your debt, or you will pay significantly less than the amount owed.
- You have the option of keeping assets such are your home or car.
Disadvantages of Filing for Bankruptcy
- Bankruptcy may temporarily affect your credit score. This can be countered with a reaffirmation agreement.
- You may have to surrender nonessential and/or luxury items, depending on whether you file for chapter 7 or chapter 13 bankruptcy.
- Bankruptcy filings are public records.
Every financial situation is unique, and therefore requires a unique evaluation. If you would like to discuss your options with an experienced bankruptcy attorney, contact DeLuca & Associates at (702) 664-8964 for a free consultation.
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