Credit card debt reduction can be accomplished by filing bankruptcy. But there’s also a way to reduce big credit card debt that doesn’t involve bankruptcy. I frequently offer this option to clients who either do not qualify for bankruptcy, or who would lose an important asset in bankruptcy. The strategy works best for people whose main debt is credit card debt, and who can afford to pay some of their debt, just not all of it. (I’ve also recently written about the “Turnip” alternative to bankruptcy, but you need to have no possibility of future income for that strategy to work).
Bankruptcy to Wipe Out Credit Card Debt
One of the best and fastest ways to get rid of crushing credit card debt is to file Chapter 7 bankruptcy. It typically eliminates all credit card debt incurred up to the date of the bankruptcy’s approval. But Chapter 7 bankruptcy doesn’t work for everyone. Why? First, and most importantly, there are strict income limits on qualifying for chapter 7. If you make under about $100,000 for a family of four, or $60,000 for an individual, then you are likely to qualify in California. Earn more than that, and you don’t qualify.
Second, even if the income thresholds to qualify for Chapter 7 are met, many people might lose assets they wish to keep if they file bankruptcy. If someone has more than $500,000 in equity in a primary residence, or more than about $30,000 in cash and other assets such as a car, then the Bankruptcy Trustee can take that to pay down debts. That’s when Chapter 13 bankruptcy is a better option, but Chapter 13 is a 3-5 year debt repayment plan in which you are repaying a portion of your debt. Chapter 13 bankruptcy doesn’t wipe out debt the way Chapter 7 does.
But, there’s another option for dealing with credit card debt that doesn’t eliminate it all, but can greatly reduce the amount you pay.
Threat of Bankruptcy Gets Credit Card Companies to Negotiate
Another strategy for dealing with credit card debt is to settle an outstanding balance for far less than is due — often just 20 to 35 cents on the dollar owed. How does this work?
First, the client stops paying their credit cards, even the minimum payment due. I write to the card issuer, asking that all future correspondence on the account go through me, not my client. Interest and late payment fees begin to accrue on the account, demonstrating to the credit card issuer that the cardholder is unable to make payment. This is a necessary precursor to make the credit card issuer willing to negotiate. By the way, another benefit of this strategy is that I field those nasty collection phone calls.
Second, the card issuer (or collection agency, if the original card issuer has sold the account to a third party and with it, the legal right to pursue collection action) eventually offers to settle the account for some lesser amount than what is owed. This usually happens within 3-6 months of payment stopping. The initial offer from the credit card issuer is typically 50-75 percent of the balance due. I respond, on Faucher Tax & Bankruptcy Law letterhead, that my client cannot afford the amount they’re proposing, but that s/he can afford 10-25 percent. And, that if that amount doesn’t work for the card issuer, then my client is prepared to file bankruptcy. Remember: if my client files chapter 7 bankruptcy, then the credit card issuer gets nothing. The potential for you to declare bankruptcy tends to get card issuers’ attention. Getting something – even something much lower than their original offer – is better than nothing for credit card issuers and debt collectors. And the threat of bankruptcy coming from a bankruptcy attorney is credible (unlike one coming from another debt consolidation mill that seem to promise getting rid of debt but just add to it).
Drawbacks of this Strategy
There are several drawbacks to this strategy. First, you will end up needing to pay something on your credit cards, so you need enough cash to be able to pay the negotiated amount immediately. I once got a debt down to 12 percent, but that was unusual. I am usually able to settle cards in the 20-35 cents on the dollar range. Once a card issuer or collector agrees to an amount, they expect payment within 24-48 hours, so it is important to have the money available.
Second, an obvious drawback of this strategy is that your credit score will go down when you stop making payments on your account. My response to this? If you’re coming to me to explore bankruptcy, your credit score has likely already taken a beating. Plus, your real problem isn’t the cost of borrowing – which is what the credit score impacts. Your real problem is getting your debt under control, so that’s what you need to focus on.
Finally, this is a strategy that takes time and patience to execute and complete. In fact, it can be a long waiting game. Many clients get anxious as they watch their credit card balances go up month after month (or even year after year), as we wait for the debt to “ripen” sufficiently for the card issuer or collector to begin negotiating. My longest cases have taken three years (after four years the statute of limitations on debt collection in California runs out). On average, it takes two years from start to finish for my average client, who generally has 6-12 credit cards. And that amount of time has actually increased in the past few months. I believe the amount of bad debt has risen to the point that it is straining the capacity of credit card issuers and collectors to negotiate as quickly as they previously could.
Are you struggling with credit card balances you can no longer pay? Give me a call to see which of a number of strategies might address your situation.
June 19, 2022