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Hitting Rock Bottom

     Life is unpredictable, and sometimes we are dealt a bad financial hand from the start. It is very important to understand what to do when we have hit rock bottom and see no way out. Everyone has the opportunity to be financially free. Here is what you need to know.

     Hitting rock bottom implies that you are financially exhausted. You are in massive debt and have no way of getting out. It is extremely stressful. Debt collectors are calling nonstop and you are getting a bunch of debt relief offers in the mail. It is very important to differentiate between various debt liquidation techniques. Please understand that these are the last resort options and will absolutely harm your credit. We will explain what this means and how to deal with it as well.

     Debt relief: Debt relief agencies are third party negotiators to keep it as simple as possible. They will talk to the lenders of all unsecured debt. Unsecured debt would include things such as personal loans, credit card debt, etc (mortgages and car loans are considered secured debt because they are secured to an asset. Your house can enter foreclosure or they can repo your car). Debt relief services will talk to your creditors and try to negotiate a lower consolidated amount for you to pay on a monthly basis. You pay them, they take their cut and they pay your creditors the remainder. When you contact this service and agree to their terms they will tell you to immediately stop paying all of your bills. Here is an example of how the process goes:

     Context: Man owes $120,000 mixed between credit cards, personal loans, a car loan, and student loan debt. They will tell him to stop paying his credit cards and personal loans but continue to pay the car loan and student loans. The car loan is secured debt and can’t be easily settled. The student loans can NOT be discharged under any circumstances.

     Although this may seem like a great solution, it can have detrimental consequences. Debt relief is simply another party trying to negotiate with your creditors. Your creditors can still sue you during this process and your credit score will immediately tank due to missed payments which are very hurtful to any credit score. From the day you stop paying, until the day all bills have been settled on an agreed upon consolidated amount, you can potentially be sued. This method of dealing with debt isn’t the most ideal. Honestly, almost all creditors would prefer for you to negotiate terms with them directly, as opposed to using a debt relief agency. The middle man is simply not needed to negotiate with creditors.

     Bankruptcy: Bankruptcy involves paying off some of the debt you owe or simply having the entire debt discharged depending on the chapter classification (chapter 13 vs chapter 7). The important part about bankruptcy is that once the petition has been filed, you can no longer be sued by creditors. This method deals with the courts and has very strict procedures in terms of how things are done. Just like debt relief your credit score will take a big hit once the bankruptcy hits your report. This derogatory mark stays on your credit report for 7-10 years depending on the type of bankruptcy.

     Chapter 7: Discharges all debts except student loan debt (as well as debt related to tax bills, etc). Any other secured debt linked to an asset such as a car can be seized and used to pay your creditors if it is determined that the car is not needed or if it is an extra luxury car and not your daily driver .  Chapter 7 will remain on your credit report for 10 years but its affect will fade over time with proper financial habits. In fact, in as little as 3 months, you will notice offers for more credit cards. This is because creditors know that once you file bankruptcy you can not file again for 5 years or so. They just want you to repeat the cycle. This can be a great way to rebuild credit after being discharged but it can also bring you back to square one if you did not address the underlying issues that lead you to bankruptcy in the first place.

     Chapter 13: This type of bankruptcy is a consolidated payment plan. The debt won't be completely discharged. Typically you pay only the principal in one monthly payment which then gets split up among your creditors. These monthly payments can last for 3 or 5  years depending on your plans terms. Chapter 13 will remain on your credit report for 7 years. Due to the fact that you are paying a portion of this money back, it takes a shorter amount of time to be cleared from your reports, but the initial impact is still the same.

     The most important lesson is understanding why you got into the situation in the first place. Fixing your financial habits is the most important thing you can do during the whole process regardless of what method you choose. 20% of people that have filed bankruptcy will file again when eligible. This is mostly because they did not fix the underlying issues that brought them there. Debt relief and bankruptcy are NOT an easy way out, it is simply a solution for those that have made mistakes or those that are dealing with unfortunate circumstances that are out of their control.

     Ways to quickly get back on track: Once you have gone through the process and have fixed your financial situation, you will want to start the rebuilding process. Immediately pull your credit report from the major credit Bureaus (TransUnion, Equifax, Experian) and make sure that all debts have been discharged and everything is stated correctly. Once the credit card offers and loans start inevitably rolling in again, it is very important to choose a card carefully. Don’t accept every offer. One card is good enough and make sure to maintain a perfect payment history. It only takes one slip up to fall back into previous bad habits Your score will start to rebound in no time. There are many other solutions and keeping an emergency fund is important so that you never fall behind on payments.