When I first got into this line of work I held myself out as an alternative to bankruptcy. As the law has morphed and changed and I have grown professionally I have become more likely to encourage bankruptcy for a lot of my client inquiries. Here are some reasons why.
Changes in the JP Court system: There has never been a requirement that Justices of the Peace be attorneys, and most of them are not. If you are sued by a debt buyer in justice of the peace court, you are really swimming upstream. There are virtually no rules of evidence or civil procedure and there is no court reporter. Recently the jurisdiction level of Texas Justice Court’s went up to $20,000. As such it is a turkey shoot for creditors and the appeal process is quite tedious. There are a lot of disparate results between justice courts compared to the County Courts at Law or District Courts where the judges are all attorneys, there is a court reporter present, and all of the pertinent rules apply.
Forgiven debt is taxable income. This is the closest thing to tax advice I will ever give but if Citibank (or whoever) sues you for $10K and we get them to agree to take half then they will issue a 1099-C for the rest. That means you aren’t saving as much as you thought. Debts owed to the IRS are generally not dischargeable in bankruptcy. There is something called insolvency where you can get these debts discharged. Ask your CPA or tax professional.
Your credit score will rebound much sooner. Having a lot of unsecured debt, maxed out or over extended credit cards, and high debt to income ratios can really kill your credit worthiness. Some people will stay in this hole for years wrestling with high interest rates, late fees, and high minimum payments for years. Meanwhile the credit score is not coming up. While the notation of a bankruptcy filing will be reflected in the public records section of your credit report for 7-10 years, the individual tradelines for each account will either reflect that the account has a zero balance and was discharged in bankruptcy or it will fall off. Meanwhile you just got rid of a bunch of unsecured debt and your debt to income ratios have improved almost overnight. If you play your cards right you have a pretty high credit score in a year to year and a half.
Most debt consolidations fail. I frequently get inquiries from people who have used them but are not happy. There are several things that you need to before signing up for such a service. The creditors are under no obligation to work with these services. They keep a healthy percentage for themselves. Intentionally defaulting on accounts is risky and may backfire. Again, forgiven debt is taxable income so often you are trading an unsecured creditor for the IRS. By the time the service gets their cut, the creditors take a percentage, and the IRS gets paid you may not have saved much. A scenario that I frequently see is that a potential new client will start with out with say $50,000 in unsecured debt, they hire a debt settlement service who smokes through their cash settling the easy cases, meanwhile other creditors are playing hardball, the client has no more cash left, the IRS is now taxing him, and the hardball creditor is suing him. Meanwhile his credit is still in the tank as a number of creditors are reporting the debts as settled for less than the full amount. Before that a couple of thousand gets you a Chapter 7 discharge and a brand new life.
In short there are no easy answers but Bankruptcy, especially if you qualify for a Chapter 7 is probably the quickest way to a fresh start. All of the interest and fees, not to mention taxes that you are paying the creditors is money that you are not paying towards retirement, your kids college, your mortgage, car notes, etc.
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