Bankruptcy could be an option if your financial picture is bleak, but you have to qualify. If you don’t meet certain criteria, you may have to consider alternative debt-relief solutions.
These alternatives are out there, and they are varied. They’re just not available through the bankruptcy courts.
What factors could lead to a person not qualifying for Chapter 7 or Chapter 13 bankruptcy?
Chapter 7 (discharge of debt) requires what the courts call a “means test.” This assesses if you truly lack the means to pay your debts. The means test takes into account your income, expenses, family size, and where you live.
To qualify, your income must be below the median income in the state where you live, and each state has a different median. In Florida it’s $55,681 for an individual and $89,206 for a family of four or more. In Louisiana it’s $47,710 for an individual, $87,472 for a family.
If your income is below the Chapter 7 income limit – and for the vast majority of those who apply it is — you qualify. If it’s not, you likely will not qualify and will be sent to Chapter 13. But if the court determines you have enough money to repay your debts, you will not be approved for Chapter 13 either. Which leads to alternatives to bankruptcies.
Other factors that might mean you don’t qualify when filing include:
- You can’t afford or don’t want to pay for a lawyer, which leads to complications in filing.
- You can’t afford the filing fees.
- You fail to attend mandatory credit counseling.
- You were not honest in your filing, meaning you tried to defraud the court.
- A bankruptcy was discharged within the last four years under Chapter 7.
- A bankruptcy was discharged within the last two years under Chapter 13.
What happens if you don’t qualify for bankruptcy? There are options and solutions to pursue.
Consider Chapter 13 Repayment Plans
Chapter 7 bankruptcy is, by far, the most popular form of bankruptcy, with nearly two-thirds of the cases filed. However, if you don’t qualify for Chapter 7, you can consider Chapter 13. This isn’t as simple a process because in Chapter 7 debts are discharged in exchange for selling nonexempt property.
In Chapter 13, you agree and stick to a 3-5 year payment plan. It’s wise to study and understand the difference between Chapter 7 and Chapter 13. The good news is that if you are faithful to the plan, you will pay down and/or eliminate debts.
Chapter 13 bankruptcy is a reorganization of debts for individuals. In cases filed between April 1, 2022 and for the next three years, total unsecured debts cannot exceed $465,275 or $1,395,875 in secured debt.
Chapter 13 is beneficial if you have property you want to keep and have income high enough to pay down the debt over time. As long as you keep up with payments, you may keep your home, but may have to sell nonexempt assets to pay down the rest of debts. This approach allows you to stay where you live and to catch up on missed mortgage, car, child support, and other debts.
The payment plan will affect the monthly budget, and because Chapter 13 is more complicated than Chapter 7, it almost always requires an attorney, which means paying legal bills. However, many attorney fees are rolled into the payment plan, which lessens the immediate burden.
Implement Anti-Harassment Laws
Consumer protection laws can be activated or implemented that protects your rights in the process, even before filing for bankruptcy.
The Consumer Credit Protection Act (CCPA) was passed in the late 1960s, and been updated to protect consumer rights.
Creditors have a job to do in collecting debt, but they don’t get to be ugly about it. The federal Fair Debt Collections Practices Act (FDCPA), a part of the CCPA and undergirded by certain state laws, protects consumers from abusive and harassing behavior from debt collectors.
By law, creditors are prevented from:
- Calling more than seven times within seven consecutive days after an initial phone conversation.
- Communicating with you via social media, if the contact is viewable by the general public.
- Contacting you after you specifically ask them to stop calling or writing.
- Emailing you at work.
Creditors can only call during certain hours of the day, may not threaten you, may not use abusive language or publish your personal information. They also may not push you to pay debts you do not owe, or have you arrested.
Attempt to Negotiate Better Terms
Lenders holding unsecured debt want to be paid back. However, they may work with you – if you call them. Lenders are not beyond renegotiating to lower your interest rates on your credit card balances, but you have to ask.
Hints to help negotiate better repayment terms:
- Know your card(s) and/or loan(s) provisions, including the grace period, monthly due date and your balance(s).
- Check your credit ahead of time; if you’re still wielding a decent score indicating you’re a good risk, lenders might be more inclined to comply with your requests.
- Do your homework. Are there competing credit cards with better rates? Note them and be prepared to invoke their attractive terms as a bargaining lever.
Nothing is guaranteed, but if you can properly explain your current financial fix (be ready to document your struggle, and explain whether your budget crunch is temporary or long term) and agree to a repayment schedule — make certain it’s realistic — the bank might cut you a provisional break on your interest.
Understand that if you get a reduction but fail to keep up your end of the bargain, those high rates you bargained down are likely to snap back, and then some. If a credit card company makes an arrangement with you, take advantage and make the payments, in full and on time.
Increase Your Income
Find more money. Easy to say, right? Snap the fingers. Voila: More money.
But … in the gig economy it’s really not a lot more complicated than that. We live in an age where anyone with a bit of spare time, a smartphone and some old-fashioned want-to, can add to their income.
The gig economy is everywhere, and available to almost anyone, regardless of skills. Have clean, reliable, late-model transportation? Drive for one of the ride-sharing companies such as Uber or Lyft. Have reliable transportation and the ability to follow directions efficiently? Sign on with one of the home-delivery services, such as InstaCart, DoorDash, Grubhub or Uber Eats.
Got skills as a writer or editor? How about programming or marketing? Can you tutor? Do you have specialized expertise that might qualify you to do part-time consulting? The trend in the freelance economy is toward knowledge-intensive and creative occupations.
The top advantage of these opportunities: You do the work on your schedule. If you have two hours free to deliver meals on a Tuesday or Friday, use the time to make extra money, then use the extra income to pay down your debt.
Get started by checking out the opportunities listed by freelance jobs websites, such as Flexjobs, SolidGigs, Fiverr, Upwork, CloudPeeps, Freelancer and/or Indeed.
Also worth looking into: Maybe you deserve a raise at your day job. The labor market is tight, and there’s upward pressure on compensation. If you haven’t had a boost lately, do some homework: What are others with your skills and experience being paid for similar work? Your research might indicate you’re due a bump; if so, talk it over with your supervisor.
Use Your Savings to Pay Off Debts
Everyone wishes they had a nest egg, that account where money is set aside “just in case.” Well, paralyzing debt is a “just in case.”
Savings accounts in mid 2022 were paying .1% in interest, which is next to nothing. Credit cards charge 16-to-30% in interest. Any time the interest you pay on debt is higher than the interest you’re earning in savings, you are best off using your savings to pay down or eliminate the debt.
When bankruptcy is an option, your debt has reached emergency levels. That is the time to use emergency funds – provided you are employed and have the means to use that money.
- What is the interest I am earning on my savings?
- What is the interest I am paying on my credit cards?
- What are the finance charges I am paying every month?
- Can I formulate a budget that will allow me to earn enough money while also using savings to pay debt?
- Is my job steady enough that I can give up some of the emergency funds to pay debt?
- How far would I be if I negotiated a better arrangement with the credit card companies and used some savings to help pay it?
Honest assessments can lead to answers that provide solutions.
Use Your Home’s Equity
Home equity is the difference between the market value of your home and the amount you owe on it. A $200,000 home with $100,000 left on a loan has $100,000 in equity.
Gaining that equity would mean refinancing your home, which means setting up a new loan that includes what you owe and a “cash out” portion you would use to pay debt. In our example above, perhaps you borrow $150,000, pay off the $100,000 left on your first mortgage and use the “cash out” of $50,000 to pay off debt.
Your home loan just increased from $100,000 to $150,000 because you used home equity for debt consolidation, but you got rid of high-interest credit card debt and replaced with a low-interest loan. It’s even possible that the new payment will be less than what you are paying now for your home loan and debts combined.
It also means qualifying for another loan and going through the process. It might not work for everyone, but if it does work, it can be a sound option.
Another option is a straight home equity loan, also known as a second mortgage. This is a lump sum loan that would allow you to pay debt, but would mean a second mortgage payment every month.
If your credit is good, you also could take out a Home Equity Line of Credit (HELOC). A HELOC uses the equity in hour home to provide a line of credit, similar to a credit card.
In our example there is $100,000 in equity. You can borrow up to 80% of that and use whatever portion is necessary to pay off the debt. You only pay interest on the portion you used. The interest rate usually is variable, meaning it can go up or down, which could be a concern in today’s mortgage market.
You would have a second loan to pay off in addition to your home loan, but for both a home equity loan and a HELOC, the terms should be at a far more favorable interest rate than credit cards and for an extended period, which lowers the payment.
Use Your 401K or Retirement Fund
Anyone with a well-established 401K could borrow from those employer-sponsored retirement accounts to pay off debt. Carefully assess this option. Many consider it a very poor choice for paying off debts. This is especially not the best idea for those close to retirement. If you are relatively young, you have many years to rebuild the account. If you are close to retirement, you are cheating yourself out of money you may need when you retire.
401K loans require no credit check and have a good interest rate. It also is an easy process. You must repay what you borrowed, and the time frame to repay is, at most, five years. If you default, the money you borrowed becomes a distribution and must be taxed. It also could be subject to penalty, depending on your age. If you lose your job, the loan becomes payable in full within 90 days. So think it through carefully.
Technically, borrowing from an Individual Retirement Account (IRA) is not allowed. However, you can withdraw from the IRA provided you repay it within 60 days. This is not a great option for those burdened by credit card debt, because if you don’t have the money for the debt, where would you find the money to reimburse the IRA?
Budget to Cut Out Excess Spending
One of the best places to start finding out where you are by creating a budget. Honest assessment of spending and costs can almost always find ways to save. Make a list of all expenses honestly. The first step is to eliminate low-hanging fruit in your budget.
If debt is burdensome, it’s not wise to go out to dinner twice a week. You might not need that high cable bill; streaming TV could save money. Shop around. Cell phone service is very competitive and can be low priced. Internet costs can be reduced. Starbucks at home costs a lot less than at the store.
Be ruthless, be honest. Any cutback can produce money you can use to whittle down the debt.
Stop Making Payments
If none of the above debt-relief options work or are realistic, stopping all payments might be something to consider. When you file for bankruptcy, you stop making payments. Doing so gives you a reason to negotiate with debtors, especially credit card companies.
Taking this step independent of bankruptcy is risky, and it’s important to keep that in mind. If you follow through, take the money you would have paid to settle the debt and put it in a savings account. This creates an emergency fund to help you dig out of debt.
What can happen if you take this step?
- The credit card company will call and/or notify you that you’re falling further behind.
- Interest will accrue, late fees may be applied.
- Your account may be turned over to collections.
- At some point, a debt collection lawsuit could be filed.
- All of this will have a negative effect on your credit score. A missed payment by 30 days could cause a drop of 50-to-100 points. The longer the debt is unpaid, the more the credit score could suffer.
This step, though, will give you the chance to communicate with the credit card company and try to negotiate a settlement. The step can be painful, but also could be productive.
This may sound odd, but it is an option – especially if you don’t own a home or property and if you have little income. You might be “judgment proof.” A creditor might not sue you because there is nothing they can collect if you have no assets. A creditor also cannot take basic and needed items like clothing, household furnishings, Social Security or unemployment benefits.
Consider Debt Management
A debt management plan could be worked out after speaking with a nonprofit credit counselor. This plan reduces the interest rate on credit card debt to somewhere around 8%, and give you 3-to-5 years to pay that debt. The savings can be significant, and if you apply that savings to the debt you will pay the total off even quicker.
Factors must be considered. As with almost any financial arrangement these days, there are those in the world who will try to scam you. Make sure you use a legitimate nonprofit counselor. These plans also require you to make payments in full every month.
Nonprofit counselors are required by law to recommend the plan that is best for you. If you don’t qualify for bankruptcy, debt management could be an alternative.
Is Debt Settlement for You?
With debt settlement, a consumer pays less than what is owed. The payment is made via a lump sum after two or three years of saving for an amount large enough to make an offer. It requires negotiating with one or more creditors to get them to agree to settle the debt for less than what is owed.
If the creditor accepts – great! But they have no obligation to accept and many refuse.
Another negative is that while you are saving, the debt is growing because of interest charges and late fees. Typically, negotiations with the creditor will not begin until after you reach the targeted savings goal.
When considering debt settlement vs. bankruptcy, it’s important to consider the negative fallout if you choose debt settlement. It can lower your credit score between 100 and 200 points, and the credit score can be impacted for seven years.
Debt consolidation means gathering multiple credit card debts into one pile, and taking one big loan, typically from a bank, credit union or online lender, to pay off that amount.
Making just one payment simplifies matter and if you have a good credit score, you might qualify for a low-interest loan. However, that is unlikely if you’re considering bankruptcy, but it’s still worth checking out.
What are some of the alternative ways to consolidate debt?
- Debt management program. Reduced interest, 3-5 year repayment period.
- Credit card balance transfer. Taking advantage of a 0% interest to sign up for a credit card can help. Be sure to read the fine print.
- Personal loan. Beware high interest rates.
- Peer-to-peer online lender. Pay attention to the nasty fees.
- Home equity line or line of credit. Low interest rate, but you put your home at risk.
- Retirement account loan. Early withdrawal will mean penalties.
- Borrow from friends or family. Often the best way to borrow, but be sure you can pay it back.
- Cash-out auto refinance. This can provide a lump sum to pay debt, but losing your car is a possibility if you can’t pay back on time.
It’s important to pay attention to the details. Though this loan puts debt into one loan to one creditor, you’ll still owe the same amount –- simply to another entity. It also requires discipline. It makes no sense to add a consolidation loan and continue using credit cards. That just piles debt on debt.
Ask A Professional
If you don’t qualify for bankruptcy, seeking advice from a nonprofit credit counseling agency is a sound step to take. These discussions will offer credit counseling to help you assess your budget, debts and options to relieve the debt. They will present the best method for your situation, and walk you through why it’s the best.
Many nonprofits offer this consultation for free. It never hurts to get good advice, tailored specifically to your situation.
About The Author
Bill “No Pay” Fay has lived a meager financial existence his entire life. He started writing/bragging about it in 2012, helping birth Debt.org into existence as the site’s original “Frugal Man.” Prior to that, he spent more than 30 years covering the high finance world of college and professional sports for major publications, including the Associated Press, New York Times and Sports Illustrated. His interest in sports has waned some, but he is as passionate as ever about not reaching for his wallet. Bill can be reached at [email protected].
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