How to decide which option is right for you?

You’ve read through the site and now know what a debt consolidation loan, credit counseling, a proposal and bankruptcy are. Now how do you decide which one makes the most sense for you and your family?

There are many different ways to make this decision – here’s a practical approach that many people find helpful.

Each of the first three options is based on your ability to make a regular monthly payment for an extended period of time. A good place to start is to prepare a detailed monthly budget – in that way, you’ll have a better idea of how much you can afford to pay.

Preparing a budget doesn’t need to be complicated. You are really just preparing 2 different lists. On the first list you write down all of the different sources of money that your household has every month. For example: your take home pay, government pensions, support payments received, baby bonus, rental income, etc.

On the second list you write down all of the different ways you spend money every month. For example: rent or mortgage, utilities, car payment, insurance, gas, groceries, etc. You then need to sort your expenses into living expenses vs debts. For the purpose of sorting out your financial problems we need to know how much money you have left over at the end of the month after you’ve after you paid for your living expenses.

Let’s use a real life example:

A family of 3, living in a home they bought last year with 5% down. Their monthly income (his job, her job and the baby bonus) comes to $3,800 a month. Daycare costs $600. Their mortgage and other housing costs run $1,200. They spend another $800 on their car. $600 on groceries, and another $200 on miscellaneous stuff.

The house has gone up a fair bit in value over the last year such that they have about $10,000 in equity build up (equity is the amount of money they would have left for themselves if the house was sold).

They have a car lease that is current and is included in the $800 listed for car expenses every month.

Besides the mortgage and the car lease, they owe $25,000 on 4 credit cards and another $7,000 on a line of credit.

What should they do?

First, let’s prepare their budget:

Income minus expenses = money left to deal with their debts

$3,800 – ($600 + $1,200 + $800 + $600 + $200) = $400.

In other words, after they pay all of their regular living expenses, but before they deal with their debts, the family has $400 left to spend.

How about a consolidation loan? Their total debts are $32,000. A 5 year loan at 7% interest would cost them $634 a month. Since they only have $400 this solution doesn’t make sense for this couple.

What about credit counseling? In a credit counseling plan there is usually no more interest charged, but you do have to repay 100% of the debt over 4 or 5 years. To be consistent with the loan calculation, let’s use 5 years. The payment would be around $550 a month. It is still more than the family can afford so this solution doesn’t make much sense.

How about a proposal? Before we can talk about a proposal, we need to have an idea of how much a bankruptcy would cost (if you look back to the proposal page, you will see that a proposal must offer more money than a bankruptcy or there’s no reason for anyone to accept the proposal).

If the couple filed bankruptcy they’d have to pay the Court an amount equal to the equity in their home, $10,000, or their trustee would be forced to sell their home. In addition, based on their income and family size, the family would be required to make a monthly payment of approximately $240 for each of the 9 months that their bankruptcy would take. The total cost of filing bankruptcy would be $12,160. The couple really wants to keep their home, but can’t come up with the payment for the equity. Bankruptcy might work, but they may be forced to sell their home.

Now back to proposals: we know how much a bankruptcy would be worth and therefore we can estimate an offer to make to the couples creditors in a proposal. In this case, we would suggest $300 x 48 months or $14,400. It fits in their budget and it offers more money than the bankruptcy. This looks like an offer that should be accepted by their creditors.

Hopefully by this point you have a better understanding of your options and at least one method to use to help you decide which one is right for you.

The next step? More homework on the web or perhaps you should consider booking an appointment to meet with a trustee or counselor to discuss your situation in greater detail.

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