If you find yourself struggling with debt, it’s not unusual to despair of ever finding a way out. The problem is, once you reach a point where your income doesn’t cover what you owe in debt repayments, things just spiral out of control.
One missed payment just increases the amount you have to pay next time, both in terms of playing catch-up and any penalties you incur. If you couldn’t cover your bills in the first place, where do you find the money to pay even more?
It can feel hopeless. But there are ways out of personal debt. The options on the table to you depend partly on your circumstances at the time. They all have their advantages, but there are drawbacks, too. It’s important to know the pros and cons of each and how they relate to your own situation before you choose which path to take.
Here are three of the most common options for escaping problem debt and who they suit best.
Debt Management Plan
A Debt Management Plan (DMP) is a way of consolidating existing debts into a single, affordable monthly payment. It’s best suited to people who are on the cusp of debts spiralling out of control who are looking for a little breathing space to get them back on an even keel. It works by promising creditors that the debt will be repaid, just over a longer period of time, which brings down the monthly repayments. Consolidating payments into one, which is then distributed by a debt specialist, keeps things easy to manage.
DMPs are suitable for unsecured debts like credit cards and loans but aren’t eligible for secured debts like mortgages. Because they depend on repaying over a longer period, you have to have a stable income. Creditors aren’t obliged to accept the terms and can pull out at any time, demanding repayment at the previous rate.
Individual Voluntary Arrangement
An Individual Voluntary Arrangement (IVA) works in a similar way to a debt management plan but has a formal legal basis. Again, it consolidates debts into a single monthly payment, and also sets a time limit on how long repayments will go on for – usually up to 72 months. After the repayment period, any unpaid debts are wiped off. Enforcement action and interest are frozen, and once they agree to it, creditors cannot back out.
Creditors will not agree to an IVA unless they feel there is little chance the debtor will be able to keep up repayments as previously agreed and there is a high chance of them becoming bankrupt (see below). IVAs are therefore suitable for people who are already insolvent but have a stable income that will allow them to make repayments over the specified period.
Finally, declaring yourself bankrupt is a way of clearing debts once they become completely unmanageable – but there are a few catches. The most important is that all of your financial affairs and assets – including things like your home – will be taken out of your control and handed to a qualified insolvency practitioner, who will be in charge of deciding how (and if) to use those assets to clear your debts.
The upside is that your creditors can no longer pursue enforcement action against you. The decision of how, if and when your debts are paid back is up to the insolvency specialist. They will usually take control of your affairs for up to 12 months, after which any remaining debts are written off. The downside is that you could lose your savings, your home and many other assets in the course of paying back your creditors.
Bankruptcy is best suited to people who find themselves deep in unmanageable debt with no realistic prospect of paying it off in a timely fashion, and who are otherwise facing serious enforcement action like claims to seize property.