The headlines are startling: 

• One in nine workers in California is unemployed.  
• The stock market is at its lowest point in 15 years.  
• The federal government’s budget deficit has grown over the last several years to depths never foreseen or predicted.  

And the economic impact on average American families cannot be underestimated.

In these tough times, even the most fiscally responsible families often find themselves buried in credit card debt.  Not surprisingly, industries have sprung up seeking to take advantage of their desperation.

To assist our members, the Association of American Homeowners is offering a guide for families in need with answers to help them get back on their feet.

HARD CHOICES

If individuals find themselves buried in a mountain of debt that cannot be paid, options are limited to:  

• Debt Settlement
• Debt Consultation
• Declaring Bankruptcy
• Doing Nothing

While each option has benefits and consequences, consumers must be careful to select the right company and the right option, says Franco Bianchini, the owner of National Credit Exchange, a debt settlement firm in Orange County, California.  

Debt Settlement

Depending on your circumstances, finding the right debt settlement company to service your needs may be the best option.  But beware of red flags such as high fees, cash upfront requirements, and unrealistic promises when selecting a company with which to work.

A debt settlement program is a hardship program only for people who are late in making payments on unsecured debts like credit cards, who have no ability to make future payments and for whom bankruptcy may be the only other option.  Unlike other services, debt settlement seeks to reduce the principal amount of your payment while negotiating away your interest payments.

A properly managed debt settlement program seeks to avoid default and bankruptcy.  Typically, debt settlement companies ask you to set aside and save a set amount of settlement funds on a monthly basis. This amount will be determined in your initial analysis based on total amount of debt, and it will be in line with your income and expense budget. Each person's situation is different and the negotiation process will begin at different times depending on the amount of your debt. Once the creditors agree to a settlement amount, the company presents an offer to you. The settlement is often between 40% and 60% of the total amount owed.  In other words, if you are paying your credit cards and owe $10,000, at the end of the settlement customers often only owe $4000 without making any more interest payments.
 
But as Bianchini reminds us, there is no free lunch.  “Consumers will find that their credit score will be negatively impacted,” he warns. “But if they do nothing, the impact will be worse.”

Bianchini also urges caution about companies that require large cash payments up front or promise that your debts will be “wiped away.”  “If someone makes promises that seem too good to be true, they are.”

National Credit Exchange will negotiate a settlement and make the consumer an offer.  If approved by the customer, the creditor will fax over a “settlement offer” in writing.  Debts can be settled in two different ways: one lump sum or a term settlement. One lump sum is just that, one payment and the account is paid. A term settlement is a settlement that is paid over an extended period of time until the account is paid, then moves through each debt until you are debt free.

Bianchini says 

”our goal is to ensure that you are completely and fully informed about your options. If you choose to enter a debt settlement program, we will verify that you understand all aspects of the program – including the negative impact this action will have on your credit score.”  A recent study by the National Economic Research Associates (www.nera.com) finds that while debt negotiations will impact your credit initially, completion of the program will increase one’s ability to take on new debt in the future – rebuilding your credit score as the process moves along.

If a company does not provide you with information – the good, the bad and the ugly – it is best to select another company to service your needs.

DEBT COUNSELING

Debt counseling companies seek to provide guidance and advice on how best to pay off your debts.  Unfortunately, consumers must be extremely cautious when dealing with debt counseling companies.  Set up as non-profits, debt-counseling companies have been singled out as call centers with sales staff pushing consumers into debt management programs with hidden fees.  (For more information, go to www.consumeraffairs.com/debt_counsel/index.html).  Some companies set themselves up as non-profits to get around restrictions of the “do not call” lists.

In addition to the hidden costs, many charge that the credit counseling industry is nothing more than a front for the credit card companies themselves.  Many credit counseling companies fees are paid for by the lenders themselves.  Known as “fair share,” credit card companies send back to the companies portions of the payments they receive from consumers.  

Most often, debt counselors do not negotiate away the total amount of debt owed and only reduce the level of interest rather than eliminating it.  In addition, many debt-counseling companies charge a large upfront fee in addition to a monthly fee.  That is a red flag.  Never pay an up-front fee to reduce your back-end debt.

BANKRUPTCY

Bankruptcy is the option of last resort.  If you find yourself “over-extended” and have tried financial counseling, spending plans, reducing your payments, and/or paying more than the minimum amount due and still cannot make headway in repaying your debts, bankruptcy may be an option worth investigating.

When you have incurred more debt than you think you can reasonably repay, bankruptcy may be a way to debt relief.
Filing for bankruptcy, however, brings long-term consequences for your credit rating.

Bankruptcy adjusts the relationship between you and your creditors. Many of your debts will be forgiven. You will be allowed to keep some property known as exempt items. The rest of your property may be sold and the money used to pay off your debts. If any property has been pledged as collateral (such as a home for a mortgage, a car for a vehicle loan, etc.), the proceeds from the sale of that item will first go to the repayment of that debt. Any balance will be applied to other debts.

Your creditors may receive nothing, may get a small amount per dollar owed, or may be paid off in full. The proceedings take place in federal court and are governed by federal law.

Keep in mind that bankruptcy will stay on your credit report for 10 years and may make it difficult or very expensive to get credit in the future. Once you have filed for bankruptcy, you are not able to file again for six years (except if you file Chapter 13 and repay at least 70 percent of your debt).

In addition, bankruptcy is not free. You will have to pay court costs, administrative fees and trustee fees. You will probably also want to hire a lawyer who specializes in bankruptcy. In most cases, you must pay these fees when you file.

No one should file for bankruptcy unless they cannot see any other way to pay off their debts. Bankruptcy no longer carries the stigma it once did. Yet, many feel hostility from neighbors and business owners who accuse them of “walking away from their debts.”

In these hard economic times, no one solution works best for everyone and many companies promising financial assistance are scams that take advantage of those in need.  Each individual must assess his or her own situation and needs, examine all the options carefully and determine the best course of action.