What are my alternatives to bankruptcy?

Creditor hardship programs

Most major credit card issuers, and many lenders, have internal hardship programs. They typically reduce the interest rate, sometimes to zero, and set a fixed payment for a period of months or years. The account is usually closed to new charges.

This fits someone with a temporary problem, such as a job loss with a job coming, or a medical event that is resolving, who can realistically pay the balance at a lower rate. You call the creditor and ask. There is no fee. The downside is that you are still paying the full principal, and if the underlying problem is not temporary, you are delaying rather than solving.

Debt management plans

A nonprofit credit counseling agency can set up a debt management plan. You make one monthly payment to the agency, which pays your creditors under terms the agency has negotiated: reduced interest, waived fees, a fixed payoff over roughly three to five years. You pay the full principal. (The full DMP answer in this section covers the vetting and the honest completion odds.)

This fits someone with mostly credit card debt who can afford to pay it back over a few years if the interest stops compounding. It does not help with secured debt, taxes, student loans, or judgments. It requires you to close the cards. There is usually a modest monthly fee. Look for agencies affiliated with the National Foundation for Credit Counseling and be wary of anyone who charges a large upfront fee.

Negotiating settlements

Creditors, and especially debt buyers who purchased your account for pennies on the dollar, will often accept less than the full balance in a lump sum. Settlements at 30 to 60 percent of the balance are common on older, charged-off accounts.

This fits someone who has a lump sum available and a manageable number of accounts. Two things to know. First, the creditor usually will not negotiate seriously until the account is well behind, so this path involves months of missed payments and possible lawsuits along the way. Second, forgiven debt over $600 is generally reported to the IRS as income. There is an exclusion if you were insolvent at the time, but you need to claim it.

You can negotiate yourself. Debt settlement companies do the same thing for a substantial fee, often while telling you to stop paying and send money to them instead. The Consumer Financial Protection Bureau and the Federal Trade Commission have both warned about this industry repeatedly. If you want help, a bankruptcy attorney will often negotiate settlements for a flat fee and will tell you if bankruptcy would be cheaper. The debt settlement answer in this section covers the industry version, and the tax surprise, in full.

Doing nothing

This sounds like avoidance, but for some people it is the rational choice. If your income comes from Social Security, disability, or a pension, it is generally protected from garnishment. If you own no property above your state’s exemptions, a creditor with a judgment has nothing to take. People in this position are sometimes called judgment-proof, and the judgment-proof answer in this section treats it as the real option it is.

If that is you, creditors can sue and win, and it changes nothing. Bankruptcy would clean up your credit report and stop the calls, but it is not necessary to protect you. Doing nothing does mean living with collection activity and a damaged credit history, and it is a choice worth revisiting if your situation changes.

Selling or borrowing

Selling a house with equity, downsizing a car, or, less often, a family loan can resolve a debt problem without any of the above. Borrowing against a retirement account is almost always a mistake when bankruptcy is on the table, because retirement accounts are protected in bankruptcy and the loan is not. The same warning applies double to home equity: securing dischargeable debt with your house is the one consolidation move to almost never make, as the consolidation answer explains.

How to compare

For each option, ask three things. What will I actually pay in total? How long will it take? What is protected while I do it? Bankruptcy generally wins on the first two for people with significant unsecured debt, and the automatic stay wins on the third. The alternatives win when the debt is modest relative to income, the problem is temporary, or when the credit consequences of bankruptcy matter for a specific near-term goal.