Credit Counseling: A Better Option Than Bankruptcy?[yoast-breadcrumb]
Credit Counseling: A Better Option Than Bankruptcy?
Filing for bankruptcy can seem like the only option when you’re drowning in debt. But it comes with major consequences, like trashing your credit score and losing valuable assets. That’s why credit counseling should always be considered first. This article explains everything you need to know about credit counseling vs. bankruptcy – the pros, cons, and how each process works.
What is Credit Counseling?
Credit counseling involves working with a nonprofit credit counseling agency to come up with a personalized debt repayment plan. The counselor reviews your finances, helps you create a budget, negotiates with creditors, and sets up a monthly payment plan. The goal is to pay off debt through affordable payments over 3-5 years. Counselors also provide education on money management and how to avoid getting into debt trouble again.
The biggest pros of credit counseling are:
- Avoid bankruptcy – You may be able to resolve debt without filing for bankruptcy, which wrecks your credit.
- Lower interest rates – Counselors can often negotiate reduced interest rates on your debts.
- Lower monthly payments – Your payment plan is based on what you can afford each month.
- Consolidate payments – You make one payment to the agency each month, instead of paying multiple creditors.
- Get out of debt faster – Counseling plans usually take 3-5 years to complete, while Chapter 13 bankruptcy takes 3-5 years.
- Improve credit – If you successfully complete the plan, it can help rebuild your credit score over time.
- Free counseling – If you can’t afford the fees, services are provided for free.
The downsides are that credit counseling requires you to cut expenses, live frugally, and commit to the repayment plan for years. Some creditors may refuse to work with the agency. And if the plan fails, bankruptcy may be your only remaining option.
The Credit Counseling Process
Here are the key steps if you decide to go the credit counseling route:
- Contact a reputable agency – Only work with an accredited nonprofit agency approved by the U.S. Department of Justice. Avoid any agency that promises to make debt instantly disappear.
- Complete a budget analysis – Provide details on your income, expenses, assets and debts. The counselor will evaluate your situation.
- Review options – The counselor explains debt management, consolidation, settlement, bankruptcy, and other options. They help you decide which solution fits your situation.
- Set up a DMP – If appropriate, the counselor will help you set up a Debt Management Plan (DMP) with affordable monthly payments.
- Negotiate with creditors – The agency contacts your creditors to negotiate reduced interest rates, waived fees, and lower payments.
- Make monthly DMP payments – You send one payment to the agency each month. They distribute funds to your creditors.
- Complete educational courses – The agency provides classes and resources to help improve your money management skills.
- Become debt free – After successfully completing the DMP, usually in 3-5 years, you are debt free!
The Bankruptcy Process
If credit counseling doesn’t resolve your debt, bankruptcy may be the only option left. Here is an overview of what a bankruptcy filing involves:
- Complete pre-filing credit counseling – You must take a credit counseling course before you can file for bankruptcy.
- Choose a bankruptcy chapter – Either Chapter 7 bankruptcy or Chapter 13 bankruptcy. Chapter 7 wipes out eligible debt, while Chapter 13 restructures it.
- Hire a bankruptcy attorney – An experienced bankruptcy lawyer is highly recommended to guide you through the complex process.
- File bankruptcy paperwork – Your attorney helps prepare and file the petition, statements, schedules, and other documentation required by the bankruptcy court.
- Attend the meeting of creditors – You must attend a hearing where the bankruptcy trustee and creditors can ask you questions under oath.
- Wait out the automatic stay – The court issues an automatic stay that halts collections, wage garnishment, foreclosures, and most lawsuits.
- Complete the repayment plan (Chapter 13 only) – If you filed under Chapter 13, you must complete a 3-5 year repayment plan.
- Receive a discharge – If you successfully complete all bankruptcy requirements, eligible debts are discharged.
Weighing Credit Counseling vs. Bankruptcy
When deciding between credit counseling and bankruptcy, here are some key factors to consider:
Impact on Credit
Bankruptcy devastates your credit, lowering your score by 100-200 points. The bankruptcy stays on your credit report for 7-10 years. Credit counseling causes less damage. If you complete the debt management plan, it can help rebuild your credit over time.
The average cost of credit counseling is $800 to $1,200 for a multi-year program. Bankruptcy attorney fees range from $1,500 to $3,000, plus you have to pay court filing fees.
Credit counseling debt repayment plans take 3-5 years to complete. Chapter 13 bankruptcy also takes 3-5 years to complete the repayment plan. Chapter 7 moves faster, usually wiping out eligible debt within 4-6 months.
Impact on Property
With Chapter 7 bankruptcy, you may have to surrender property that isn’t exempt. Credit counseling allows you to keep all property. Chapter 13 bankruptcy also allows property retention.
Types of Debt Discharged
Chapter 7 bankruptcy discharges many types of unsecured debt like credit cards, medical bills, personal loans, etc. But taxes, student loans, alimony, and other obligations are not discharged. Credit counseling results in all your debts being paid off over time.
Ability to Repay
If you can afford to repay debt through a DMP credit counseling plan without financial hardship, this is preferred over bankruptcy. If your income is too low or unstable to keep up with payments, bankruptcy may be your only viable option.
Is Credit Counseling Right for You?
Here are some signs that credit counseling may be a good fit:
- You have a stable income and can afford monthly DMP payments.
- You are only a few months behind on debt payments.
- You want to avoid the long-term damage of bankruptcy.
- You are motivated to change your spending habits.
- Your debt load is under $10,000.
On the other hand, here are signs bankruptcy may be a better choice:
- Your debt load exceeds your annual income.
- You are facing wage garnishment, foreclosure, or other collection lawsuits.
- Your income is not stable enough for a multi-year DMP.
- You have mostly non-dischargeable debt like taxes or student loans.
- You are facing hardship due to medical bills or unemployment.
Seeking Credit Counseling Help
If you want to explore credit counseling as an alternative to bankruptcy, contact a reputable credit counseling agency today. They will walk you through the process and help determine if a DMP is right for your situation. You can find certified nonprofit agencies at www.justice.gov/ust/list-credit-counseling-agencies-approved-pursuant-11-usc-111.
Credit counseling provides debt help without the long-term damage of bankruptcy. In many cases, it can get you back on the road to financial freedom without needing to take the bankruptcy route. Get informed about all your debt relief options before making a decision. An experienced credit counselor can lay out the pros, cons and steps for success.