Debt Solutions

Total credit card debt has recently hit record levels.

On top of that, the combination of inflation, a slowing economy, and stubbornly high interest rates is creating a perfect storm.

Under the circumstances, it's no wonder you might need some help with your financial situation. There are several possible solutions if your credit card debt is increasing and your monthly payments are getting harder to meet. 

One option is to enter into a debt relief program that allows you to repay less than you owe through a payment plan or by making a lump sum payment. 

You could also explore other ways to get debt relief, such as making extra payments on what you owe, using a debt consolidation loan to simplify repayment, or getting credit card counseling to help you get your spending under control.

The right approach will depend on the specifics of your situation. Check out some different techniques below that may help you deal with your debt for good. You can weigh the pros and cons of each to decide which is right for you. 

What Debt Solutions Are Available to You?

The following table lists debt solutions from least to most drastic. It's a good idea to start at the top and work your way down until you find one that meets your needs.

We’ll walk you through the details of each debt solution. 

Debt repayment

Repaying your creditors is one option to get rid of debt. You could do this by making minimum payments. But you'd pay a lot of interest and it would take a long time to become debt-free. 

Instead of just paying the minimum due, try to create a budget that allows you to make extra payments toward one of your debts. If you focus on the smallest debt, you’re using the debt snowball method. If you focus on the debt that has the highest interest rate, you’re using the debt avalanche method. Keep making minimum payments on all your other debts.

Once the first debt is paid off, apply its payment to the next debt on your list.

DIY debt repayment protects your credit standing if you make all of your payments on time and you pay at least the minimum due. It may not be effective if you don't have a lot of extra money to send to your creditors or if you owe a substantial amount. You could be in debt for longer than you'd like if you owe a lot of money and can't make large payments. 

Consider how much you owe and how much wiggle room you have in your budget. That could help you figure out how long it would take you to become debt-free by simply paying off what you owe. 

Debt Consolidation

Debt consolidation means taking a new loan and using it to pay off multiple smaller debts. The key is to choose a consolidation loan with favorable terms, such as a lower interest rate. 

When you take out a debt consolidation loan and pay off other creditors, you can combine multiple debts into a single account. Debt consolidation offers a few advantages, including the following:

• Replacing multiple existing accounts with one loan could make it easier to manage your payments.

• Debt consolidation could make your payments more affordable by reducing your interest rate, giving you more time to pay, or both.

• Debt consolidation could help you pay less interest.

• You may be able to replace variable interest rates with fixed interest rates.

The best debts to consolidate are those with higher interest rates because they provide a greater opportunity to save money. These typically include credit card balances and unsecured loans such as personal loans.

Other kinds of accounts, including mortgages, auto loans, and student loans, typically have low interest rates and other features that make them less attractive targets for consolidation. For example, federal student loans may be eligible for debt forgiveness, deferment and forbearance options. But if you consolidate them to a new personal loan or home equity loan, you lose those benefits. 

Some good debt consolidation options include:

• Personal loans, because their interest rates are fixed and tend to be lower than credit card interest rates

• Home equity loans, which have some of the lowest rates available

• Balance transfer credit cards, especially if you can pay off the balance before the zero-interest period expires

Applying for a new debt consolidation loan could temporarily ding your credit score. Making all of your payments on time could have a positive impact.

Debt Management Plan (DMP)

A debt management plan is similar to debt consolidation because you could replace multiple payments with one. 

Here’s how it works:

• You'll start by meeting with a credit counselor, who helps you decide which unsecured debts are eligible to include in the plan. 

• Your counselor will contact your creditors and ask them to reduce your interest rate, waive late fees, or lower your minimum payment. 

• Your counselor calculates a monthly payment to cover your accounts and your monthly plan fee. The plan will be designed to fully pay off your debts in three to five years.

You'll probably have to close your accounts as part of your debt management plan. That way, you won’t be able to add to your debt while you’re paying it off. 

Every month, you make one payment to the DMP and your counselor distributes it among your creditors. DMPs tend to require a high monthly payment and don't reduce what you owe. 

If you close credit cards that still have an unpaid balance, your credit score will likely take a hit. As the balances go down, and if you make your payments on time, your credit standing could improve.

Debt Settlement

Debt settlement involves negotiating with creditors to accept less than you owe as payment in full. Here’s how the process usually works:

• You enroll your unsecured debts with a debt settlement company.

• You make a monthly deposit into a dedicated account that the debt settlement company sets up for you at an FDIC-insured bank. You own and control the account. The account is where you’ll build up funds to offer your creditors.

• Most people choose to stop paying their creditors while they’re contributing to their dedicated account. It’s hard to afford to do both. Also, if you stop paying your creditors, it’s clear that you're in some kind of financial distress. If you’re keeping up with payments, creditors may be less willing to negotiate with you. Please be aware that when you miss debt payments, your credit standing is likely to suffer.

• When enough money is in your dedicated account, expert negotiators go to work on your behalf. Their goal is to convince one of your creditors to accept less than the full amount you owe but consider it payment in full.

• Once your negotiator reaches an agreement with your creditor and you approve it, the debt settlement company pays your creditor from your dedicated account. Some debts are settled in one lump-sum payment. Others require a series of payments.

• Your creditor forgives any remaining balance.

• The debt settlement company’s fee is paid from your dedicated account. 

• You’ll repeat this process until you address all of your enrolled debt. Most people complete a debt settlement program within two to five years.

Understand that creditors don’t have to settle with you, though, and there's no guarantee that they will. 

Lenders are sometimes willing to accept less than you owe because the alternative is a long, expensive collection process that might fail. If a creditor believes you can’t afford the full amount, it’s more likely to settle.

Debt settlement works best with unsecured debt. Secured creditors like mortgage or auto lenders can just take your house or car if you don’t repay them. They have little reason to settle for less than the entire loan balance.

Forgiven debt may be treated as taxable income by the IRS, so you might owe taxes on it. There are no federal income taxes on forgiven debt if you’re insolvent when you settle the debt. Insolvent means the amount you owe is greater than the amount you own. It’s a good idea to talk to a tax professional about your situation before you make any decisions about how to handle your debt.

Settled debts show up on your credit report as “settled,” which isn't as good as “paid as agreed.” Missed payments and collection accounts remain on your credit report for seven years. 

Bankruptcy

Bankruptcy is a formal legal process to deal with your debts. It also protects you from continued collection efforts.

There are pros and cons to bankruptcy. 

• Chapter 7 bankruptcy allows you to walk away from unsecured debts in a matter of months. But you might have to give up some of the things you own. Chapter 7 is only available to those who can't afford to repay even part of their debts. 

• If you earn enough to afford a payment, you’ll qualify for Chapter 13 bankruptcy. This is a payment plan that lasts for five years (three years if your income is lower). The judge discharges (forgives) any unsecured debt that remains after your plan is complete. You don’t have to give up anything you own, but you’ll have to put all of your disposable income into your plan. You’ll also pay plan administration fees. 

Most people hire a bankruptcy lawyer, so that’s a cost to consider. 

Debt forgiven in bankruptcy isn't taxed.

Bankruptcy stays on your credit report for seven or 10 years (depending on the type of bankruptcy). 

Finally, bankruptcies are public, so you won't be able to keep your money problems private. And you might not be able to get a job in certain fields if you have a bankruptcy on your record. 

Which debt solution is right for you?

Choosing the right debt solution will depend on your financial situation and your goals. For example:

• Paying off your debt using the snowball or avalanche method makes the most sense if protecting your credit is important and you can afford to pay your creditors. 

• Chapter 7 bankruptcy could be the right option if you owe mostly credit card debt, you don’t own much, and you can’t afford a payment.

• Debt settlement is an option to consider if you can't afford to fully pay off your debts and you want to avoid bankruptcy.

• A debt management plan could be the right path if you can afford to pay off your debts within five years and you'd benefit from professional money management guidance.

• Chapter 13 could work if you want to stop collections, like a foreclosure on your home, and you know you’ll be able to afford debt payments for a few years.