Bankruptcy Vs. Debt Settlement
3/26/2013
There are a number of questions and concerns that clients must consider when thinking bankruptcy vs. debt settlement. Jason Wischmeyer has addressed these questions many of times and has helped clients with both bankruptcy and debt settlement based on their situation. Bankruptcy vs. debt settlement depends on your financial situation and both have financial and credit benefits and issues that a client must consider.
Debt Settlement is a process where a client takes his or her debt and negotiations are made with the credit lending institution to pay less than the total amount of debt owed. Often, in order to qualify, a client must be behind on the payments of this debt and is generally strongly considering the question of debt settlement vs. bankruptcy.
Bankruptcy is a federal court process provided by the United States Constitution that allows filers to eliminate debt and keep certain exempt assets (most if not all of your stuff). Bankruptcy for individuals generally will be a Chapter 7 Bankruptcy which allows you to discharge all of your debts after about 5 months with no or minimal loss of assets and no payments to creditors. In certain circumstances based on prior bankruptcy filings, desire to catch up on car or mortgage payments or a client’s income level, some individual clients will file Chapter 13 bankruptcy which allows discharge of your debts after making payments based on your disposable income over a 3-5 year time period.
With debt settlement, often negotiations can result in a client paying 40% – 60% of what is owed on the debt, sometimes even less. The creditor has an incentive to get paid some of the debt owed versus risk a bankruptcy filing where they could get little or no money from the person owing the debt. The most logical reason to consider debt settlement is when a client has a lump sum of money that can be paid toward the debt from an inheritance, loan, tax refund or some other type of source.
One issue with debt settlement that the credit counseling companies are not upfront in telling people is that the creditor will often issue a 1099 for the amount that is written off and the client will be required to pay taxes on the amount written off. This creates a big issue if a bankruptcy is later filed as taxes are not generally dischargeable unless at least 3 years old. So, you may settle a $10,000 debt for $5,000 but the other $5,000 is going to create taxes which, depending on your tax bracket, can be an additional cost of $750-$1,800 in tax liability that is not dischargeable.
When the creditor considers your financial situation for a debt settlement, the creditor is going to look at all of your assets, including assets that would be exempt under bankruptcy. So, something such as a retirement account that is exempt in bankruptcy and cannot be taken from you will be utilized when the creditor decides whether to do a debt settlement with a client.
Clients are generally surprised when considering bankruptcy vs. debt settlement that their credit rating will be negatively affected by either. Because of the exemptions, often clients can save more money and keep more of their assets in filing bankruptcy and getting a fresh financial start versus working out a debt settlement. Attorney fees for either are often very similar costs and, in some circumstances, bankruptcy attorney fees will be significantly less.
Unfortunately, many of my bankruptcy clients get involved with debt settlement companies before they talk to a bankruptcy attorney and, ultimately, cost themselves unnecessary money or assets. The debt settlement companies will not discuss bankruptcy and if they did understand how it works they would have to explain to you that is in your best interest to file bankruptcy – and not hire them. If you are considering bankruptcy or debt settlement, a consultation with an attorney experienced in both debt settlement and bankruptcy should help you clear up your questions.
