On January 31st, I made my final payment to my debt management plan. In 55 months, my wife and I eliminated $109,000 of credit card debt.
To say we are ecstatic would be an understatement.
Over the last four and a half years, it’s been suggested more than once that we took the wrong path to eliminate our debt. I’ve been told that bankruptcy would’ve been a far better choice. So, I decided to put our debt management plan and bankruptcy into a head-to-head debt relief battle, and see which option comes out on top.
Debt Management Program
During our initial consultations with our debt relief provider, we did the following:
- Provided a list of our creditors and balances
- Created a monthly budget to see how much we’d have available for a monthly payment
- Determined whether a debt management program was affordable, or if we needed to use a different debt relief option
Once we decided to go forward, each creditor was notified of our enrollment and was sent a proposal for a monthly payment and reduced interest rate. These terms would result in our debt being paid in full in five years. We had two creditors reject the proposal, because they wanted a slightly higher monthly payment. An updated proposal was sent, and within six weeks, all our creditors were on board.
We made 54 payments of $2,489, and one final payment of $3,992 for a total of $138,398. The breakdown of our payments looks like this:
- Debt repaid: $109,000
- Administration fees: $2,750
- Interest: $26,648
Chapter 7 Bankruptcy
With Chapter 7 bankruptcy, a debtor’s assets are liquidated, and the proceeds are used to pay the creditors. The rest of the debt is discharged, and the debtor is given a fresh financial start.
To qualify for Chapter 7, the debtor’s income must be below the median income in the state which they reside. If the debtor’s income is above the median, they must pass a strict means test to prove they’re unable to pay back their debt. Since our income exceeded the median for our state, and we wouldn’t have passed the means test, we wouldn’t have qualified for this.
Chapter 13 Bankruptcy
Chapter 13 bankruptcy is a rehabilitation of a debtor’s finances through a regular payment plan that repays part or all of the debt. People filing for this type of bankruptcy must have regular income and show that they’re able to make consistent payments towards their debt.
This is the bankruptcy path we would’ve had to pursue.
Once we filed the bankruptcy petition, the following things would’ve occurred:
- A 341 meeting (meeting of the creditors) to verify all the information on the bankruptcy petition, such as our income and debts
- The creation of a detailed, judge-approved budget to determine how much discretionary funds we’d have available each month to pay our creditors
Because our income is above the state’s median, our repayment plan would’ve been 60 months (as opposed to 36 months for people whose income falls below it). I can’t say whether we would’ve been required to pay back all of our debt or not.
However, if we’d been ordered by the court to pay back every penny, we would’ve made an estimated $112,000 in payments, broken down like this:
- Debt repaid: $109,000
- Estimated bankruptcy lawyer fees: $3,000
- Interest: $0
- Length: The length of our debt management program was 55 months vs. the court-mandated 60 months for Chapter 13 bankruptcy.
- Amount paid: Even if we would’ve paid back 100% of our debt through Chapter 13, we would’ve paid more than $26,000 less out of pocket — because, according to Minnesota state law, no interest can accrue on credit card debt during bankruptcy repayment.
- Monthly payments: $2,489 for our debt management program vs. $1,867 if we repaid all our debt through bankruptcy (with 0% interest over 60 months).
- Income increases: Over the last 55 months, we’ve increased our income significantly through pay raises, my wife picking up an extra job, and my becoming a freelance writer. This extra income went right into our budget and improved our financial breathing room. Had we declared bankruptcy, we would’ve had to inform the court of each income increase — and the judge would decide how much of that income would go to our creditors each month.
- Mortgage refinance: We had an adjustable rate first mortgage, and an interest-only second mortgage. We took advantage of the historically low interest rates and refinanced our mortgage into a single, fixed rate loan a few months ago. Had we gone through Chapter 13, we probably wouldn’t have been able to successfully refinance. It’s not impossible to purchase a home while going through bankruptcy, but it’s difficult, and borrowers are usually forced to use subprime, adjustable rate mortgages because they’re viewed as high risk.
- Vehicle purchase : Our van is nearing the end of its life, but we’re trying to make it last as long as possible. Had it needed replacement during our debt repayment period, purchasing a car while enrolled in a debt management plan is very doable, and borrowers can even qualify for the lowest interest rates. People going through Chapter 13 must find a lender that will extend credit to them, and will likely be offered a higher interest rate.
- Credit rating: I’m exiting our debt management program with a credit score of 704, and my wife with 740. Bankruptcy can have a severe negative impact on a debtor’s credit rating for years after the repayment period has ended.
Laying out the facts above, it’s harder to pick a clear winner than I thought it would be. Bankruptcy has a very big advantage, because creditors can’t continue to charge interest during bankruptcy repayment, which results in a lower monthly payment.
Enrolling in a debt management program, however, allowed us to maintain much more control of our finances. We had the flexibility to refinance our home, which may save us thousands over the life of our mortgage. We didn’t have to go through the stress of court proceedings and having our monthly budget approved, and we didn’t have to go back to court each time our income changed.
But is that worth $26,000?
A person’s peace of mind is priceless. I’m not saying that going through our debt management program was stress-free, but the thought of having to go through court proceedings many times over the last four and a half years doesn’t sound attractive to me in the least.
I also don’t know whether we would’ve paid back all of our debt through bankruptcy. And it was very important to me that we DID pay back every penny.
We spent the money, and I believed we should repay it if we could. We’ve proved over the last 55 months that we were able to do so.
In my opinion, there’s a place and a need for bankruptcy if a person has come to a point where they absolutely can’t pay their debt. Through our debt management program, we were able to do so without involving legal proceedings. The final decision was difficult, but I still believe we made the right choice.
Do you think I made the right choice? Have you gone through bankruptcy? What was your experience?