With interest rates having just been raised, due to the last Federal Reserve meeting setting the federal funds rate higher, it seems like the credit card mess in America is getting even messier. Debt payments are increasing, the unemployment rate is going up, and financial hardships are all around us (seemingly at an even great degree than just a few years ago). For many people monthly credit card bills are hard to get ahead of and financial life is getting more difficult (in an already difficult terrain). So what is the pathway out? When I worked in the financial industry (as a financial consultant) we went over these options with our clients on a daily basis.
Roughly speaking, there are about 5 options for getting rid of credit card debt. Here they are:
1. Minimum Payments
Paying just the minimum payments on your credit cards, or even close to the minimum payments, is not a good option for nearly anyone. It’s just not sustainable since the balances don’t go down barely at all, and more than likely, you’ll have to use credit again when times get rough. This then continues the debt cycle.
2. Snowball Method (DIY)
The famous Dave Ramsey is known for promoting this method. Use any extra money you have at the end of each month to pay down your smallest card first. Then use that extra money to pay down the next smallest card, and so on, until all the cards are paid off. The trouble is, what if you don’t have extra money or what if things keep coming up that require the use of credit again? This method is great but only works if you can consistently put money aside each month to pay down the cards. It takes serious discipline and budgeting.
3. Personal Loan
Secured or unsecured personal loans can potentially be an answer to wrap credit card debt into one single payment, save on interest, lower payments, and provide a pathway to being debt free but you have to be careful. There are many cases I’ve seen where someone does this only to get right back into debt again by using the credit cards they previously paid off. On the other hand, these loans tend to be higher interest than home loans (mortgages) and can have higher monthly payments.
4. Consumer Credit Counseling
Consumer credit counseling is a method where you hire a company to negotiate lower interest rates with the credit card companies. Typically, you make one monthly payment to the agency, and they make your monthly payments to the credit companies until everyone is paid off. During this time (in many cases) the credit cards are frozen and cannot be used. This method can show up on your credit as a public record though and often the payments are not much better than minimum payments. If there is little money left over at the end of each month though this could put you at risk of using credit again and some banks will not reduce the interest rates.
5. Debt Relief
Debt Relief is where you hire a company to negotiate your debt amounts while voluntarily stopping your monthly payments on your credit cards and other unsecured debts, putting them into default. The strategy here is that eventually your credit card companies will be forced to reduce your debt (often by 50% off or better) because the alternative means they potentially get nothing if you decide not to pay anything at all. Intuitively though, this option can wreck your credit for years, some credit card companies can later refuse to issue you credit (even after you have paid everything off), and you can get sued.
6. Bankruptcy
Bankruptcy is a legal process where a court or judge determines that some or all of your unsecured debt will either be restructured (potentially lowering your monthly payments and/or balances) or where the debt is wiped away completely (meaning you no longer owe on those relevant debts). The two most common forms of bankruptcy are Chapter 7 and Chapter 13. In Chapter 7, a court places a temporary “stay” on your current debts, stopping creditors from garnishing wages, foreclosing on your home, or repossessing property. Bankruptcy shows as a public record on the credit report for 7-10 years and can affect lots of other financial decisions or opportunities in the future.
In some cases, filing for a bankruptcy might be needed but this is rare. For most people who have credit card debt this would be a last option.
7. Cash Out Refinance / Home Equity Loan
By far, the lowest interest rates (and therefore generally the lowest payments) are going to be found by accessing the equity in your home. This can be done by either refinancing a first mortgage or taking a second mortgage (such as a HELOC or HE Loan). If you are in the right situation this can be a good option, since home equity amounts have increased so much in the last few years.
At Compass Mortgage Planners, we shop dozens of different kinds of lenders and have options for all types of borrowers (including hourly, salary, and self employed borrowers).
