Debt Relief Programs vs. Bankruptcy Filings in 2020: The Pros and Cons of Each

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2020 has brought a lot of challenges, from a global pandemic to an economic crisis and some of the highest unemployment numbers the U.S. has ever seen. Unfortunately, many Americans are now struggling with debt after relying on credit cards and loans to make ends meet. Consumer debt has reached a record-breaking high exceeding $14 trillion and while many businesses have re-opened despite COVID-19, ten-percent of Americans are still unemployed which means that debt will continue to increase.

After struggling to make minimum payments and watching interest accumulate at a rate much higher than you can pay, you may be looking for an easier way to manage your debt. Bankruptcy is an extreme option that can get you out of debt, but the lengthy process and lasting impact on your credit hardly make for an easy solution. Some of the best debt relief options out there provide a less extreme recourse. However, they can be costly and may cause more trouble for some consumers (especially those with bad credit).

If you are considering bankruptcy or debt relief as a solution to your debt, it is important to exercise due diligence in researching the process, short term, and long term impact, and fully understand what you are signing up for regardless of the option you choose. To help you get started with this, we have compiled a brief list of pros and cons for bankruptcy and debt relief options in 2020.

CON #1: Bankruptcy will leave a negative mark on your credit report for up to ten years

There are more than just financial consequences of bankruptcy. Bankruptcy filings are public record, which means there is no keeping it a secret. Anyone who has co-signed for you will be notified of your bankruptcy filing and your bankruptcy will be published with other legal notices in local newspapers and online.

The financial consequences are severe and long-lasting. While bankruptcy petitioners often already have negative marks from nonpayment, your credit score will tank once you file. The impact on your credit score depends on many factors, but it could drop your score by the hundreds. Because bankruptcies remain on the credit report for seven to ten years depending on which chapter is filed, those negative marks will impact everything from employment to your ability to get a loan, and even your housing options and insurance rates for the next decade.

PRO #1: Bankruptcy can eliminate or greatly reduce your monthly debt payments

Simply put, bankruptcy means debt forgiveness. Many of your debts will be discharged through bankruptcy, with a few exceptions like student loans and back taxes. In a Chapter 13 bankruptcy, you can consolidate your debt payments into one affordable monthly payment. Under Chapter 7, your debts are paid from the sale of your non-exempt assets.

CON #2: Both bankruptcy and debt relief programs can be costly

Unfortunately, neither bankruptcy nor debt relief programs are free. Filing bankruptcy requires that you pay court filing fees and attorney fees which can amount to thousands of dollars. You will also be required to complete credit counseling, an additional cost.

Debt relief programs charge for their service. Most charge a fee equal to a percentage of the debt enrolled in the program, as well as other fees like check fees. You could end up paying the debt relief program thirty percent of the total debt you have now, which might mean you ultimately pay more money than if you just paid off your creditors directly. This is especially true if you end up getting sued by a creditor because then you will need to hire an attorney and will likely be responsible for associated court costs and filing fees.

PRO #2: Your debt payments are consolidated in a debt relief program

Rather than having to manage multiple debt payments and due dates, you can make one monthly payment to the debt relief program and your debts will be paid through the account you are building there. Debt relief can help you through debt settlement or a debt management plan.

Upon enrollment, the debt relief company will give you a payment plan to build up your account. You will also be instructed to stop making any payments directly to your creditors. Once your account has money to negotiate with, the debt relief company will get to work negotiating a settlement or manageable payment plan to resolve your debts. Some debt relief programs also offer a consolidation loan, which will allow the company to have the funds needed to negotiate your debts immediately while you continue to make a single debt payment to the debt relief company toward the loan balance.

CON #3: Bankruptcy means litigation – but debt relief programs can end up in court, too

This is one of the biggest cons of debt relief programs that is not always transparent to consumers. The debt relief company will only negotiate with your creditors once your accounts are delinquent. However, some creditors move quickly and before the debt relief company can even make contact with your creditor, the account could already be turned over to collections, or there could be a pending lawsuit.

Unfortunately, many creditors will not work with debt relief programs or are unwilling to negotiate any settlement or reduced payment terms. Despite the efforts of your debt relief program, your creditor may sue you for non-payment. If a consumer stops making payments on a debt, the first step the creditor takes is to turn the account over to collections. When collection efforts are unsuccessful, the creditor will file suit against the consumer. Some creditors skip the collections process and go straight to litigation through small claims court.

PRO #3: Bankruptcy can offer debtors a fresh start

Although it is not a fail-proof option, bankruptcy is known for offering debtors a fresh start by wiping their financial slates clean. If you are a candidate for a Chapter 7 or Chapter 13 bankruptcy filing, you can discover the benefits of having your debt payments consolidated, reduced, or forgiven entirely. However, speak to an experienced bankruptcy attorney before proceeding with this option.

Do your research

Ultimately, debt relief and bankruptcy may help get you out of debt but are not appropriate in all circumstances. If you are struggling with debt, consider credit counseling first. These non-profit organizations can help you with money management, provide free educational materials and workshops, and connect you with a certified counselor to help you develop the best plan for tackling your debt. 

To read more about credit counseling options, visit the FTC’s website or reach out to your financial advisor.