Debt Settlement vs Bankruptcy

1) Understand Debt Relief vs Bankruptcy Definitions

I have spent years helping people understand debt relief vs bankruptcy, so I'd like to provide some concise information. The rest of this article should help answer more questions, and the calculator should be your personalized resource to help you estimate your own personalized costs and pros and cons. For context, here’s a general definition of each of the things we will discuss:  

Debt Settlement: An individual or service working on an individual’s behalf to negotiate your debts by decreasing what is owed if you are unable to afford your debt.

Chapter 7 Bankruptcy: A bankruptcy that wipes away all of your unsecured debt. Student loans generally will not be discharged from any bankruptcies.  

Chapter 13 Bankruptcy: A bankruptcy that restructures your existing debt, often due to an individual making too much to file a chapter 7 bankruptcy. 

2) How To Think About Bankruptcy vs Debt Settlement

Firstly, when people think about debt relief, most people think about Chapter 7 bankruptcy, Chapter 13 bankruptcy, debt settlement, and debt management (also known as credit counseling). We won't cover debt management in this article because many people who cannot afford their debt will not afford the interest rate reductions of debt management. That said, if you're interested, check out our article covering debt management vs debt settlement.

Now let's cover the process many people think through debt relief vs. bankruptcy.

1. Many people want the least expensive option and the one that provides relief is the fastest. For this, many people consider Chapter 7 bankruptcy because it's often the least expensive option and also gives debt relief in as little as 4 months. The challenge with this option is that you must qualify. You also could lose your home in a Chapter 7 bankruptcy if those assets exceed the bankruptcy exemptions for your state.

2. If you do not qualify for Chapter 7 bankruptcy or your assets exceed the bankruptcy exemptions, many people now consider Chapter 13 bankruptcy vs. Debt settlement.

3. The key questions you may consider are: 1) What is the total monthly payment of each option? 2) What is the length of time until you are debt-free? Know both of these variables will help you understand total costs by multiplying them together. 3) What are my long-term goals? For example, there are credit impacts for bankruptcy and credit impacts for debt settlement. Knowing your goals may help you choose your best option.

Our free debt settlement vs bankruptcy calculator will help you determine the first 2 answers while sharing information related to the pros and cons.

3) Take Debt Settlement vs Bankruptcy Calculator

It's difficult to understand all of the nuances and differences between debt settlement and bankruptcy without adding your own information to make the results relevant for you. Each situation is different, so it's imperative that you view each option holistically. You can use the calculator below to:

• Compare monthly and one time costs of debt settlement vs Chapter 7 and Chapter 13 bankruptcy based on your zip code
• See everything that goes into your costs
• See pros and cons of each solution (also provided below)
• Get specific insights and analysis for your situation. Please see example of personalized insights.

Your results will be personalized to your financial data. Please note that these are only estimates, but we created the debt settlement vs bankruptcy calculator to provide a hollistic estimate of your different options.

4) Understand How Debt Settlement Works

Debt settlement companies work as an intermediary between the individual owing the debt and the creditor. The debt settlement company will do the following for the enrolled participant: 

• Create an enrollee-owned escrow bank account for the enrollee to consolidate all of the payments into one payment for the creditors.
• Communicate to the creditors that they will be the primary point of contact going forward to prevent future calls to the enrollee.
• Negotiate on behalf of the enrollee with each of the creditors for the lowest possible rate. Get agreement from the enrollee on whether to accept the settlement and payment plan.  
• Repeat step 3 for all creditors. Manage the payments to all creditors upon completion and debt freedom.

A few points to note:  

• When choosing a debt settlement company, it’s important to observe the fees charged and compare those against other companies, how the fees are paid, and any other fees associated with the program. 
• You should view CFPB's information on debt settlement before signing the dotted line. You also always want to confirm that the debt settlement company you choose is legitimate. Ascend has 2 firms that we work with that meet our legitimacy criteria, so please feel free to reach out if you have any questions.

5) Understand How Chapter 7 Bankruptcy Works 

As stated above, the main difference between Chapter 7 and Chapter 13 bankruptcies is that all your debt is wiped out in Chapter 7 regardless of what you owe. For reference, student loans are generally not discharged in either type of bankruptcy.  

To qualify for Chapter 7, you must meet income guidelines based on means testing. This information is determined by the Census Bureau and the Internal Revenue Service. These income guidelines are based on the income based on your family size and the state where you reside. For details, the most recent Census Bureau Median Family Income By Family Size for on or after May 1, 2020 and beyond can be found here. If you earn more than the median, the next step would be to determine whether you have enough left over to repay some of your debt.

A few points to note:  

• The higher your disposable income, the more likely you wouldn’t qualify for a Chapter 7 bankruptcy. 
• There can be exempt assets that are state-specific. The Bankruptcy Site provides a comprehensive list of those exemptions by state here.
• Only bankruptcy filers who have significant consumer debts need to take the means test.  

6) Understand How Chapter 13 Bankruptcy Works 

Chapter 13 is another way to get rid of your outstanding debt, but it takes much more time and is more involved. Since a Chapter 7 bankruptcy can be completed in under 1 year, a Chapter 13 bankruptcy can take up to five years. There are also limits as to how much debt you can include.  

When you file a Chapter 13 bankruptcy, it can be similar to a structured settlement plan in a debt settlement in that you have to pay some or all of your debts. The amount that you pay typically depends on the type of debts included in the bankruptcy and how much you owe to your creditors. There is also a waterfall of payment priority with the first payments made to your lawyer(s) and the lowest priority to your unsecured creditors.  

The benefit of a Chapter 13 bankruptcy is that you may get to keep some of your assets, as there are some protections by state.  

A few points to note:  

• A Chapter 13 bankruptcy can last three or five years, but the majority will be five years. 
• There’s an incentive to stay in the bankruptcy. If you fail to make the payments to the trustee, the case can be dismissed, leaving you to owe your creditors again, and the fees to your legal assistance, trustee, etc. would generally not be refunded.
• The Chapter 13 payment plan is highly inflexible, meaning that unexpected emergencies can mean a dismissal of the bankruptcy.

7) Debt Settlement vs Bankruptcy Pros and Cons

Below is a breakdown of the pros and cons of debt settlement vs bankruptcy with estimated positive or negative weighting for each of the different options.

What's Best For You?

This depends on each situation and each individual. At Ascend, we would prefer to have a conversation with you beforehand to determine what’s best for you. We want only those suitable for the Ascend program to be enrolled (which is a very small subset of the population), so there is no bias to offering a recommendaion that does not suit you well. 

Complete a short questionnaire to see which solution is best for you!

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