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Debt Solutions

There are a variety of ways to resolve your debt problems.  Broadly speaking these are:

Each of these methods will be appropriate in different circumstances, so it is important that you understand the advantages and drawbacks of each solution. Whilst you can achieve financial freedom through a professionally managed plan, you can also make your financial situation much worse by signing up with the wrong company or the wrong plan. Before deciding which solution is best for you always take advice from a debt-counselling organisation.

In most instances the major disadvantage you are warned about is that ‘your credit rating will be adversely affected’. For example, information regarding a bankruptcy or IVA will remain on your credit record for six years. After this time you may still have to declare your previous history, particularly when applying for a mortgage. This may make it difficult for you to access credit at the best rates or in some instances to access credit at all.  This can have knock-on effects such as making it difficult for you to buy your own home.

It is worth noting that the cost of debt management services will differ depending on which organisations you deal with. With some organisations every penny you pay goes to your creditors and reduces what you owe. However, many Debt Management Companies will give "free debt advice", but will charge for their debt management services. Often fees are taken as a percentage of monthly payments made by the debtor, and in some cases there is also a non-refundable deposit to pay, which is considered a "set-up cost".

Whatever organisations you choose to deal with do make sure that you are aware of all the costs and fees involved.

It is important to know whether or not your debts are secured, and to understand the impact that will have on the various methods to resolve debt problems. Ensure that you are aware of the implications of each solution.

The next section looks at each of the solutions in turn, and details both their advantages and their drawbacks.

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Informally Negotiated Agreement

An informally negotiated agreement can usually be applied to any form of debt.

Normally you will work out offers of payment to your creditor(s) on a pro-rata distribution of your available income.  This means that all your creditors are offered a proportionate share of what you can afford to pay.  You may offer no payments if there is no available income - this is called a “moratorium”.

There are no limits on the time that an informally negotiated agreement can last.

Advantages

  • A fair and transparent method of distributing payments
  • Recognised by courts
  • Widely accepted by creditors
  • You can make increased payments when/if your circumstances improve in order to pay off your debts earlier
  • You can make reduced offers if your circumstances change for the worse
  • Your creditors may agree to suspension of interest and charges

Drawbacks

  • Your credit rating will be adversely affected
  • Creditors may refuse offers, or only accept them if they are made through a third party e.g. a debt advice agency
  • Creditors may refuse to freeze interest, in which case your debt could continue to grow
  • It is not a legally binding agreement – creditors could discard it in the future and ask you to pay in full. 
  • Creditors may take court action, which is a particular risk for homeowners with larger debts who might be subject to a ‘charging order’ against their home
  • You are responsible for administering all the payments yourself
  • Many creditors will only accept reduced offers for a limited period and may ask for regular reviews

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Consolidation Loans

Consolidation loans can be made for any amount and include any debts your lender allows. Consolidation loans allow you to put all your different debts together in one place, usually at a lower monthly repayment.

You can apply to a lender for a loan to clear your other debts.  A new loan may be secured on your house if you own a property.  You should shop around for the best deal.

Before obtaining a consolidation loan you must first work out a budget. If you have not worked out your budget (e.g. by completing a full personal budget statement) you may not have worked out if you can realistically afford the payments.

Consolidation loans last as long as the term you agree with the lender.

Advantages

  • Won’t affect your credit rating unless you fall behind on repayments
  • You will be making one monthly payment on one loan rather than many payments to different creditors
  • Your new monthly payment is likely to be lower than the sum of individual payments would be

Drawbacks

  • If you already have a poor credit rating you may not be able to take out a consolidation loan or you may be offered one on comparatively poor terms e.g. a higher interest rate than if you had a good credit rating
  • If the loan is secured on your house it could be repossessed if you do not keep up with payments
  • Interest rates are often variable rather than fixed, making it difficult to accurately estimate the total cost of the loan
  • Loans are often offered over a long repayment period, meaning that even if the interest rate appears reasonable, the length of the repayment period can increase the overall cost of the loan significantly
  • If you don’t include all of your existing borrowing in the consolidation loan, then you may struggle to make the additional payments required on top of the consolidation loan repayment
  • If you transfer debt from your credit cards and decide to keep them it may be tempting to use them again
  • You may be tempted to take on further debt over and above your consolidation loan

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Debt Management Plans (also known as DMPs)

DMPs are usually available for people who have debts of more than £5,000.

You need to have £100 or more available income per month to pay your creditors, and you must have three or more creditors.

You make an agreed monthly payment to a debt management company who should not charge you for distributing payments amongst your creditors on your behalf.  In some cases ‘low start’ DMPs may be available where you would only be obliged to pay £5 per creditor per month.

There are no limits on the time that a DMP can last.

Advantages

  • A fair and transparent method of distributing payments
  • The debt management company negotiates with creditors on your behalf so offers are more likely to be accepted and interest frozen
  • You can make increased payments when/if your circumstances improve
  • The debt management company is responsible for administering all the payments.  You simply make one monthly payment

Drawbacks

  • Your credit rating will be adversely affected
  • You may not be able to make reduced offers if circumstances get worse and you cannot afford the minimum £100 per month
  • Debt management companies cannot compel creditors to accept offers or freeze interest so the DMP may not be accepted
  • Some creditors may refuse to deal with Debt Management Companies. If a creditor will not deal with a Debt Management Company, you will have to deal separately with that creditor.

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Charitable Payments

Sometimes a charity may assist you in paying off your debts in response to an application for help.  This will depend upon the charity’s criteria for providing assistance.

Advantages

  • It can help relive stress and anxiety where you are in an exceptionally difficult situation
  • It may pay off a particularly urgent or pressing debt

Drawbacks

  • Such arrangements are not very common and most charities will be unable to help with large debts
  • You must fit the charity’s criteria in order to be able to apply for help in the first place

Only likely to assist with an emergency or priority debt, not the whole problem

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Offers in Full and Final Settlement

Offers in full and final settlement are not subject to any limit on your debt.

If you have a lump sum available that will pay off part of your debts, you can ask the creditors to accept part payment and write the rest off – offering immediate relief from debt. Alternatively you might make monthly payments for a set period after which the balance is written off.  It is vital to get written agreement from your creditors before paying a lump sum.

Advantages

  • You clear your debts in full but only have to pay part of the debts back
  • It allows you to make a completely fresh start

Drawbacks

  • There is no certainty your offer will be accepted.
  • You may have to ask for help from friends or relatives
  • The offer will show up on your credit file and could affect your ability to get credit in the future

If your offer is not accepted, a creditor could try to obtain the whole lump sum by taking court action

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Administration Orders

Administration Orders can be used for debts of £5,000 or below.

Administration Orders can be used where you have had a County Court or High Court judgement served against you.  You must have debts with at least two creditors.  You can apply to your local County Court using application form N92.  The order enables you to make a single payment every month to the Court.  This is divided amongst your creditors on a pro-rata basis by the Court.

Unless you have a composition order, there are no limits on the time that an Administration Order can last.

Advantages

  • None of the creditors listed on the Administration Order can take further action against you without the Court’s permission
  • The Court deals with your creditors and distributes the payments for you
  • Interest and other charges are stopped
  • There is no up-front fee (the Court takes 10p in every £100 paid in)
  • You can apply to make payments for a time-limited period e.g. three years on a “composition order”
  • You can make increased payments when/if your circumstances improve
  • You can apply to the Court to make reduced offers if your circumstances change for the worse

Drawbacks

  • Your credit rating will be adversely affected
  • Your total debts must be below the £5,000 limit
  • Creditors can make objections to the Court and ask to be left out of the Order

If you do not maintain your payments the Administration order can be revoked and the creditors can pursue you again

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Individual Voluntary Arrangements (also known as IVAs)

IVAs (first established in 1986) can be made for any amount of debt.

An IVA is a formal agreement to pay an agreed amount off your debts over a shorter period, such as five years. The agreement is set up, for a fee, by an insolvency practitioner through the County Court. The rest of your debts are written off upon the successful completion of the Individual Voluntary Arrangement.

Only an authorised insolvency practitioner can propose, set up and manage an IVA which has to be agreed by a majority (more than 75%) of your creditors by means of a vote. The weight of each vote is proportionate to the amount owing to the creditor, giving the most say to those whom are owed the most.

Once you have found an insolvency practitioner to act for you, you should apply to the court for an ‘interim order’. This prevents your creditors from presenting, or proceeding with, a bankruptcy petition against you while the interim order is in force.

You can still be made bankrupt if an IVA fails.  If the IVA does fail, you cannot apply for an IVA again for another twelve months. You cannot enter into an IVA if you are an un-discharged bankrupt, or if you have entered into an IVA within the last five years.

There are no limits on the time that an IVA can last, but they usually last five years.

Advantages

  • Unlike with bankruptcy, there is no publicity of an IVA
  • You are not bound by the restrictions that apply to a bankrupt person
  • If you are in business, you can continue to trade
  • You can have more say in how your assets are dealt with and how payments are made to creditors.  You may be able to exclude assets such as your home if creditors agree
  • Creditors will be bound by the IVA even if they vote against it
  • Usually lasts a maximum of five years, after which the debts included in the IVA will have been cleared
  • If you are not using one of the free debt advice organisations, some insolvency practitioners will allow their fees to be paid on a monthly, basis as part of the IVA

Drawbacks

  • Your credit rating will be adversely affected
  • An IVA is dependent on your ability to make regular payments towards your debts, thus requiring a suitable income
  • Costs can be high (typically more than £4,000) and the insolvency practitioner may require payment of fees up front.  Costs may be particularly high if the IVA fails
  • Some IVAs fail because the payments required are unreasonably high
  • If your circumstances change, the IVA may fail if the insolvency practitioner cannot convince creditors to accept new terms
  • A set number of years, after the commencement of the IVA, many have a built-in requirement to revalue your home and release equity for the benefit of creditors. This can mean extended payments or coming up with a lump sun to cover the equity
  • There are a growing number of insolvency companies who may offer to set up an IVA for you even if this is not the most suitable option for your circumstances.  These companies are not yet regulated to ensure that you are given best advice
  • Debt advice services are offered at no charge by a number of advice organisations. Do check out the fees first. You may be paying an unnecessary fee by going to a private debt management organisation.

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Write-offs

Write-offs are not subject to any limit on your debt.

Write-offs usually occur where there is no available income or capital and your circumstances are unlikely to improve in the future.  There might be exceptional circumstances involved, such as a terminal illness, or it may simply be uneconomic for the creditor to collect the debt.

Advantages

  • It can help to relieve stress and anxiety where you are in an exceptionally difficult situation
  • It allows you to make a fresh start
  • Your creditors have accepted that it is not appropriate to take any further action

Drawbacks

  • Creditors do not normally agree to write-off a debt completely
  • The write-off will show up on your credit file and affect your ability to get credit in the future
  • Some creditors choose not to pursue the debt but do not put this in writing.  There is no guarantee that they will not pursue the debt in the future
  • Some creditors may refuse whilst others agree.

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Bankruptcy

Bankruptcy can be applied to most debts. Exceptions include student loans, court fines, benefit overpayments and maintenance or child support payments.

You can petition for your own bankruptcy or a creditor can make you bankrupt. A creditor can issue a bankruptcy petition if you owe them £750 or more, and the debt is unsecured.  There is no upper financial limit if you choose to make yourself bankrupt. An Official Receiver will oversee your financial affairs.  Valuable assets are usually sold off to pay your creditors.  If you have no assets the debts are written off.

Bankruptcy status usually lasts one year before you are discharged, but you may have to make payments for three years.

Advantages

  • It allows you to make a fresh start after a year
  • Debts may be written off completely if you have no assets
  • Creditors cannot take further action unless the bankruptcy is secured on your home
  • Monthly payments for a maximum of three years

Drawbacks

  • Your credit rating will be adversely affected
  • You will no longer control your assets.  If you have equity in your property you could lose your home. If you are a joint registered owner of a property, the Official Receiver or trustee in bankruptcy cannot become the registered owner of the property, however they could make an application for an order of sale to the courts
  • You may lose any assets you acquire during the term of your bankruptcy such as inheritances, redundancy payments, insurance settlements, or growth in the value of your home
  • You may have all your bank accounts and credit cards closed.  Anything you might be leasing or buying on hire purchase, such as your car, will be immediately returned to the owner.
  • Secured creditors can still take action
  • You have to pay a fee and deposit totalling £475 (correct as at October 2006)
  • Your employment may be affected.  In particular you may not be able to pursue a career in certain professions such as banking, accountancy and law, become a Director of a limited company, hold public office or act as a trustee of a charity or pension fund
  • If you run your own business it may be closed down, and any employees dismissed
  • Your assets may be sold by the Official Receiver
  • Increasingly, creditors are asking bankrupts to make extra monthly repayments if they can afford it
  • Details of your bankruptcy will be published in the London Gazette (and a local paper)
  • You may have a Bankruptcy Restriction Order made for dishonesty or “unfit conduct”
  • There may be some powers to take criminal action against you
  • You cannot obtain credit of £500 or more from any person without first disclosing the fact that you are bankrupt.  Failure to do so could result in prosecution

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