“The bankruptcy reform law, its impacts, and the remaining options for consumers can be confusing at best,” says Stroh. “Bankruptcy remains one of the best-known ways to eliminate debt for consumers who cannot pay what they owe, but consumers should protect themselves by looking at other options in light of the new law’s tighter rules – not to mention the long-term repercussions resulting from the significant smear bankruptcy leaves on a credit rating.”
1. Chapter 13 bankruptcy– The new bankruptcy law that goes into effect this October primarily affects Chapter 7 filings, which typically wipe out all unsecured debt. After Oct. 17, the new law will require a “means test” to determine eligibility for Chapter 7 protection. Those whom the law deems to have enough income (as defined by each state’s median income) to repay at least a portion of their debt will be unable to obtain Chapter 7 protection. Chapter 13 filings – which require consumers to repay debt on a repayment plan – will still be available.
Pro: May reduce debt and stop collection calls. Con: The publicly available bankruptcy judgment remains on a consumer’s long-term record.
2. Credit counseling – Many credit counseling firms receive funding from creditors and reduce only interest rates, not principal owed. The result often is considerably increased total amount paid and time to pay off debt. The Federal Trade Commission and Internal Revenue Service have begun a potentially wide crackdown on the credit counseling industry, shutting down firms engaging in unlawful trade practices or abusing non-profit status.
Pro: Lower monthly payments. Con: Up to five years of making payments, and minimum payments may not significantly decrease.
Confusing the credit counseling issue further, Stroh explains, is the new law’s mandate that consumers seeking bankruptcy protection obtain debt counseling within six months prior to filing for bankruptcy. Given the shutdown of many agencies, and the fact that many states require credit counseling agencies to operate as true non-profits, consumers in some areas may have difficulty in meeting this requirement, and hence, no option to declare bankruptcy.
3. Creditor negotiation – Consumers who cannot make even minimum payments on bills can try calling creditors and asking for temporary hardship status. Some creditors may work out payment plans.
Pro: Can provide longer payment terms. Con: Individual consumers may find it difficult to negotiate effectively with large creditors.
4. Debt resolution – Debt resolution firms negotiate with creditors on the consumer’s behalf to lower principal amounts due. Consumers then pay the debt resolution firm a percentage of savings obtained. Savings can often reach up to 60 cents on the dollar. Because it can obtain significantly better repayment terms than achieved with Chapter 13 – and with no bankruptcy judgment – many consumers are opting for debt resolution.
Pro: It’s the fastest way out of debt without Chapter 7 bankruptcy. Con: It can impair your credit score.