Bankruptcy Versus Debt Management Plan: Choosing the Right Path to Financial Relief
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By Bromwich+Smith Staff | 1615 words | Reading Time: 8 minutes | Last Update: 2023/10/27
Facing financial challenges is a common struggle for many individuals. The path to financial uncertainty is not a clear path, and it is different for everyone. When dealing with such issues, it's essential to understand the various debt solutions. This article will compare two potential paths to financial relief: debt management plans and bankruptcy.
Understanding Debt Management Plans
Debt management plans are programs that help borrowers regain control of their unsecured debt. This process involves the following steps:
Gathering details about loans and credit accounts- who you owe money to, how much you owe, including account numbers.
Negotiating payment agreements with creditors- this could include reducing interest or fees, extending payment terms etc.
Confirming negotiated terms through a signed agreement- Documenting the agreed terms in which you need to adhere to.
Pros:
Structured Debt Repayment: A debt management plan will provide a structured and manageable way to repay your debts. Typically, you make a single monthly payment to a credit counseling agency, which then distributes the funds to your creditors.
Lower Interest Rates: Credit counselors often negotiate with creditors to lower interest rates on your debts. This can reduce the overall cost of repaying your debts and hopefully stop debt from growing.
Consolidation of Debts: Debt management plans consolidate multiple unsecured debts into a single monthly payment. This can make it easier to keep track of your obligations.
Professional Guidance: Credit counselors offer financial education and support, helping you develop better money management skills and budgeting practices.
Cons:
Not Suitable for All Debts: Debt Management Plans primarily address unsecured debts, such as credit card debt and personal loans. They may not be suitable for secured debts like mortgages or car loans.
Impact on Credit Score: They will appear on your credit report, potentially affecting your ability to access credit during the program.
Longer Repayment Period: Debt Management Plans typically involve a longer repayment period compared to bankruptcy, which may extend your debt repayment journey.
Fees: Some credit counseling agencies charge fees for their services. Ensure you understand the fees associated with and how they will affect your overall financial situation.
Creditors' Approval: Creditors must agree to participate in the plan and accept the negotiated terms. Not all creditors may be willing to do so.
Limited Debt Reduction: While this can negotiate lower interest rates, they usually do not reduce the principal amount of your debts. You are still responsible for paying off the full amount of the debt owed.
No Legal Protections: DMPs do not provide the legal protections and creditor harassment relief that come with bankruptcy.
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Exploring Bankruptcy
Bankruptcy is a legal procedure aimed at eliminating overwhelming debt. In Canada, consulting a Licensed Insolvency Trustee (LIT) is crucial as they are the only federally regulated option to execute a bankruptcy in Canada. The bankruptcy process includes:
Meeting with an LIT to assess the situation- this is to understand again what money is owed, to who and what debt is able to be forgiven. It is important to note that not all debt can be included, and your Trustee will be able to explain if any of your debt is excluded from your bankruptcy. If a bankruptcy is not ideal for your situation, your LIT will be able to explore other options that might be better suited for you. Remember, a bankruptcy is typically viewed as the last option when all other resources have been explored. Your trustee will not offer this option unless they believe it is the best choice for you.
If bankruptcy is deemed beneficial, the LIT prepares and files the necessary paperwork.
Upload bankruptcy information to the Office of the Superintendent of Bankruptcy.
Providing creditor protection during bankruptcy. Creditor phone calls may still occur however as soon as you file for debt relief you no longer need to feel pressured by your creditors. Your trustee will send them the documentation showing that you have filed for bankruptcy, and you will no longer need to pay any of the debt to that creditor. If you need support, your Trustee will be able to speak to your creditors to end the phone calls.
Pros:
Debt Relief: Bankruptcy offers a fresh start by eliminating or reducing your unsecured debts, providing relief from overwhelming financial burdens.
Creditor Protection: Upon filing for bankruptcy, an automatic stay of proceedings is put in place. This legal order prohibits creditors from pursuing collections, such as calls, letters, or legal actions, giving you immediate relief from creditor harassment.
Debt Management: Bankruptcy allows you to consolidate your debts into a manageable payment plan or eliminate them altogether making it easier to manage your finances.
Credit Score Recovery: While bankruptcy has an impact on your credit score, it allows you to rebuild your credit. Many individuals will later report having the best credit score they have had once they have completed their program.
Cons:
Credit Score Impact: Bankruptcy has a severe negative impact on your credit score. A bankruptcy record remains on your credit report for several years, making it more difficult to obtain credit, and you may face higher interest rates when you do.
Limited Discharge: Some debts, such as student loans, child support, and certain tax debts, are typically not included in bankruptcy. Your trustee will be able to help you understand what can or can not be included.
Difficulty Accessing New Credit: While it is possible to rebuild credit after bankruptcy, obtaining new credit (e.g., loans or credit cards) may be more challenging initially.
Forgiving Debt
People often turn to bankruptcy to eliminate their debt. Typically, the bankruptcy process lasts 6 to 9 months if it is your first time filing for bankruptcy. In contrast, debt management plans usually do not lower or eliminate the debt amount they are aimed at extending the payment terms and reducing interest to make it easier to pay off the full debt owed .
Creditor Protection
Once your bankruptcy is filed creditors and debt collectors can no longer contact you or try to collect on the debt. With a debt management plan, however, your creditors can still contact and harass you about your debt.
Impact on Credit Score
Debt Relief options can affect credit scores differently:
A debt management plan appears on a credit report but does not directly impact the credit score.
Bankruptcy has a more significant impact on the credit score but lasts for a shorter duration. It may be more difficult short term to obtain new credit, however it is not impossible. There are preferred partners who will be willing to work with you and understand your situation. You may find yourself paying higher interest rates until your bankruptcy is off of your credit report.
Making Informed Decisions
When it comes to navigating financial challenges, ensuring you are well informed is a pivotal first step. Moving towards addressing debt is not as easy step, it requires acknowledging that you are unable to continue handling things yourself which needs courage and determination. Turning to a professional for guidance and support will help you understand and navigate your options effectively.
Both debt management plans and bankruptcy offer potential paths to financial relief, each with its pros and cons. There is no cookie cutter right choice for everyone, so in order to make the right choice for your situation, consult with experts who can provide tailored advice based on your specific situation.
At Bromwich+Smith, we understand the complexities of financial challenges and offer our expertise to help you regain control. Contact our Licensed Insolvency Trustees today for a free, no-obligation, confidential consultation at 1-855-884-9243. Let us guide you towards a brighter financial future.
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FAQ Related Bankruptcy Versus a Debt Management Plan
1. What is a debt management plan, and how does it work?
A debt management plan (DMP) is a program that helps you regain control of your unsecured debts, such as credit card debt. It involves gathering information about your loans and credit accounts, negotiating payment agreements with creditors, and consolidating debts into a single monthly payment to a credit counseling agency. DMPs can lower interest rates and provide professional guidance on managing your finances.
2. What are the pros and cons of a debt management plan?
Pros of a DMP include structured debt repayment, lower interest rates, debt consolidation, and professional guidance. Cons include it not being suitable for all debts (primarily unsecured debts), potential impact on your credit score, longer repayment periods compared to bankruptcy, associated fees, the need for creditors' approval, limited debt reduction, and no legal protections.
3. What is bankruptcy, and how does it work?
Bankruptcy is a legal procedure for eliminating overwhelming debt. In Canada, it's executed by a Licensed Insolvency Trustee (LIT). The process involves assessing your debts with the LIT, filing necessary paperwork, and providing creditor protection, which stops creditor harassment. Bankruptcy offers debt relief, creditor protection, debt management, and the potential for credit score recovery.
4. How dose Declaring Bankruptcy Process work in Canada?
In Canada, only a Licensed Insolvency Trustee can file the paperwork for bankruptcy. When you declare bankruptcy, you meet with a Trustee to discuss your situation. If bankruptcy seems the most beneficial course, the Trustee will prepare the paperwork to file for bankruptcy.
Once the paperwork is signed, your Licensed Insolvency Trustee will electronically transmit your bankruptcy information to the Office of the Superintendent of Bankruptcy in Ottawa (a division of the federal government). The Superintendent of Bankruptcy will inform the credit bureaus of your bankruptcy.
Within five days of the bankruptcy starting, your Trustee will send a copy of your bankruptcy paperwork to each of your creditors, so that they can file a claim with the Trustee.
5. What are the pros and cons of bankruptcy?
Pros of bankruptcy include debt relief, automatic creditor protection, debt management, and the opportunity to rebuild your credit. Cons include a severe impact on your credit score, certain debts not being included (e.g., student loans, child support), and initial difficulty in accessing new credit.
6. How does the impact on credit scores differ between debt management plans and bankruptcy?
A debt management plan appears on your credit report but does not directly impact your credit score. Bankruptcy has a more significant impact on your credit score, but it lasts for a shorter duration. While it may be initially challenging to obtain new credit after bankruptcy, there are preferred partners who may be willing to work with you, though you may face higher interest rates until the bankruptcy is removed from your credit report.