A good friend of mine recently wrote about a subject that is near and dear to my heart. Michael Bovee discussed the greater impact of doing the right thing when getting out of debt. It's a topic I've harped on about for years.
For me, the greater question to answer before diving into how to deal with your debt is to determine if you think you have a greater responsibility to repair the past, or the future.
If you knew the "moral" duty so many go on about of repair your debt was going to cost you a million dollars in lost retirement income, would that change your consideration of how to deal with your debt?
Here is Michael had to say.
If you need help dealing with problem credit card, and other types of debt, there is a seemingly endless amount of tips, advice, and opinions about what amounts to only a half dozen options. One of those options only requires spending less, or earning more. Another hopes that you would systematically pay more than your minimum towards your highest interest credit card until you have a zero balance, and then take all that money and pay down the next debt, followed by the next... until your debts are manageable or paid off. These are the conventionally wise forms of debt help that the majority of folks can speak to with confidence. That is because the solution to the debt problem is just simple math and good old self discipline.
But most people leave out a great deal of math, and also how many people fail with conventional wisdom. And the vast majority tipsters, advisers, and well wishers do not tell you how you can fail even when you do pay off all your debt. But I am getting ahead of myself.
There are no clear and reliable resources for how many people fail at spending less, or using debt roll up strategies to pay off problem debts. But there are resources that speak to how other debt help options measure up. I am not out on a limb when I say half of all debt help programs fail to achieve the result advertised - debts paid down to zero - and am, in fact, optimistically rounding up when it comes to credit counseling, debt settlement programs, and chapter 13 bankruptcy. But what if I told you the majority of people that do succeed with paying down debt using debt settlement or credit counseling can be seen as having failed?
You see... problem debt is not always just a temporary setback that finds you stopping in the pit for a new set of rubber and some fuel, and then back out you go to zip around the track of life. In many situations, debt help is a long pit stop that involves a complete engine swap. Depending on the circumstances, you could be swapping for a four banger... for life.
The cost of consolidating credit cards into one payment.
Assume you are 30 years old and have $22,000.00 of unsecured debts (mostly credit card bills) that you can no longer afford due to job loss, or unforeseen expenses. You consolidate your credit cards into one payment working with a nonprofit counseling agency. Your new lower payment is more affordable, at say $418.00 a month. And you are set to pay that same monthly amount over 60 months, for a total repayment of roughly $25,000.00. You complete the plan and feel like the biggest weight of your life has been lifted, and you do not look back.
If you do not look back, you will not see that the real cost of your consolidated repayment was not 25 thousand dollars. It was as much as $590,000.00 if you were to have instead contributed that same $418.00 into a retirement fund for that 5 years; for a total of roughly 32k; with an average return of 9.74%; until you reach a retirement age of 65.
Let's take the same scenario and apply it to settling debt for less.
Assume the $22,000.00 total debt can be settled for less than the balances owed over a period of 24 months by saving up $418.00 every month and not paying your credit cards. You end up paying about $10,000.00 to settle and will be out of debt. That time and lost opportunity could result in long term losses of roughly $270,000.00 were that money placed into a similar retirement fund using the example above.
I invite you to take your own financial and age example and use the debt repayment impacts my retirement calculator that I used for the above examples. The calculator is half way down that page.
Consolidating your monthly credit cards for a single lower payment appears like the longer pit stop where you might as well be swapping out your balanced and weighted high performance engine for a four cylinder. But settling debt for less still looks like your trading down your future financial power, just not as much as bill consolidation. But make no mistake; you are giving up major performance.
Comparing the cost and time frames for debt help with chapter 7 bankruptcy is both simple and complicated.
Simply put, chapter 7 on average could cost between $1,500.00 and $1,800.00 from start to finish, and take as little as 90 days. For many people that would be the equivalent of three months worth of minimum payments on 22k of credit card debt. What are the longer term implications of this on your future financial potential? As a friend of mine, Steve Rhode put it in a recent email exchange on the topic:
"People are emotionally subject to valuing immediate items more importantly than future items.... Ultimately the question seems to be if someone is willing to throw away what may amount to a million dollars or more in retirement for the emotional satisfaction of repaying their debt in a long term plan when the debt could be eliminated quickly and for not much money."
The complications with deciding to make a quick vs long financial pit stop over problem debts do not originate with the math. The math clearly favors chapter 7 bankruptcy. The complications are introduced by our individual emotions, and the perceptions of the conventionally wise.
How wise is it to call losers winners anyway (those that applaud your having avoided bankruptcy)? And how much do people driving around in 4 bangers lead to congestion for everyone else driving our nation's economic highways?
It is not just about how debt help right now leads to less of an ability to pay for tomorrow. Let's assume someone is never going to take that $418.00 a month after filing chapter 7 and focus on funding their retirement account. People trading down their personal financial performance to fix a debt problem from yesterday, or today, are not contributing to their local and regional economies while they are off the track, or running at lower speeds. This means fewer jobs nationally and globally. Fewer jobs mean less demand for goods and services. This in turn means fewer jobs, even less demand and a feedback loop.
Think the problem is small? I am only talking about revolving consumer debts. Being strung out on student loans is an even bigger concern. Add student loans to the mix and the economic issues surrounding debt help are compounded.
But this is only the part of the problem that is immediately visible. The bigger story is hidden and not being talked about, and has much bigger implications for every one of us on the track.
When we swap out our future financial performance and ability to fend for ourselves, those costs are going to be passed on... to everyone. Unless you see a future where it is a societal norm to regularly overhear people discussing which cat food they prefer to eat, there will be a safety net for those without one. The cost of that safety will be borne by society. That cost will be borne by all of us.
I understand there are strong opinions about how individuals should go about resolving problem debts. I have advocated consumers speak with a credit counselor, a debt settlement professional, and a bankruptcy attorney. And only after they feel they have all the information to compare, then choose the best way out of debt.
After more than 20 years of working with people to resolve debt problems, I am of the opinion that debt help and conventional wisdom should not be "you can look at filing bankruptcy as a last resort if you have to", but rather "too bad you could not get back on the track with chapter 7".