debt relief through debt reduction and settlement

Bankruptcy Alternatives / Debtor's Options

Debt / Workout FAQ

Q. I am in debt over my head. Bill collectors phone all day. Do I have to file for chapter 7 or chapter 13 bankruptcy?
A. No! Consider a debt workout instead of bankruptcy whenever possible. Many people refer to this process as debt settlement, particularly when used as a tool to deal with credit card debt. When a mortgage payment problem requires a debt workout it can be called a mortgage modification.

Q. What is a debt workout?
A. Generally this occurs when an attorney, unsecured debt profesional or mortgage negotiation expert contacts your creditors and makes arrangements which would require you to make some payments to them, although less then what they may be owed to settle the account in full. Other times arrangements call for payment in full but over a longer period of time than originally planned. Sometimes you can even pay a smaller settlement figure and make payments over time.

Q. Why would creditors do this?
A. Most debtors in workouts classify as candidates for bankruptcy or foreclosure. If a filing from a bankruptcy attorney would occur the creditors would likley end up with little or nothing. By doing a workout they get more than they otherwise would.

Q. Why do I need an attorney or other professional help?
A. Would you fly an airliner with your family on board if you didn't know how? Workouts or bankruptcies will be actions that will affect you for many, many years. They should not be taken lightly or handled by the inexperienced. This includes the lawyers and profesionals. Do not choose a lawyer unless he or she handles these types of cases often. Even then, make sure you share their attitude and philosophy about these cases and it makes you comfortable. Check out debt and mortgage negotiation companies, these people need no license and along with some great people you will find inexperienced folks and well and con artists and thieves. No law will stop you from a do it yourself mortgage solution but once you have missed many mortgage payments you will be best served by allowing some who knows what they are doing to help avoid your foreclosure

What should I watch for?
A. Many lawyers quickly file for chapter 13 bankruptcy without attempting to fully understand your financial or lifestyle situation or the root of your problems which might relate to your personal budget or overspending. Make sure someone takes the time to understand YOU. Then explore all options including bankruptcy, paying creditors in full, doing nothing, and debt workout. You can find an even more complete list at the Bankruptcy Alternatives - Debtors Options home page or examine a specific list of unsecured debt solutions or ways to stop foreclosure.

Q. What makes a workout better for me?
A. A Chapter 7 bankruptcy remains on your credit report for 10 years and may have to be reported on financial statements even longer, avoiding bankruptcy should allow you to keep a better credit score in the short run and make it easier to improve your credit score in the long run. A workout allows you to avoid the emotional and credit scars caused by bankruptcy. For those with hard assets, such as real property, a workout allows you to retain greater control and increase the likelihood you may keep your assets if that is your wish. Workouts even help to keep or control soft assets such as cash. Chapter 13 bankruptcy may allow you to keep your home, but your monthly payments will increase not decrease.

Q. I've missed mortgage payments and a foreclosure letter has arrived, what can I do?
A. Many ways exist to keep property and avoid foreclosure through a workout or mortgage modification. Of course, the sooner the problem can be dealt with the more likely it can be cured. I have seen clients years behind in mortgage payments. A workout for someone only a few months behind bares more chance of success. Below I've listed several ways to save a property through a debt workout, when you see the title as a section below as a link you may follow it for a complete FAQ concentrating on that particular debtor option.

  1. Short Pay or Short Refinance. In most situations people accomplish this through a refinance of the property facing foreclosure. Example: The debtor owes $100,000 on their mortgage with another $15,000 in arrearage and legal fees. Someone negotiates for the loan to be settled for $80,000 and arranges a new loan for $85,000 to cover paying off the original bank and all associated transaction fees. The debtor has now avoided the foreclosure and eliminated $30,000 of debt. Sometimes a friend, relative or investor buys or pays off the mortgage from the creditor at a discount. When using an investor to help with a short sale to avoid foreclosure remember that some of these high risk investors want to sell the house back to you while others want to own it themselves. Make sure if you try this investor option you work with someone who shares your goals in stopping the foreclosure. Without private financing the key to a successful short pay or short refinance revolves around making sure a subprime lender stands ready to grant a new mortgage. Year by year the availability of these subprime lenders can swing all the way from a good number of lenders fighting for your business to a complete void of available companies.
  2. Modify The Existing Mortgage. In simple terms, the creditor, usually a bank, agrees to change the terms of the loan. Most often the changes are temporary. Reducing the interest rate, principal portions of payments, or extending the amortization in an effort to reduce overall payment obligations, remain the changes most acceptable to creditors. Unless the delinquency remains small with a loan at a local bank or the debtor has a nasty hardship under a government program this can be a tough plan to get through the creditor's guidelines. During the foreclosure crisis of 2008 and 2009 the large numbers of potential foreclosures and government programs and presure to avoid foreclosure resulted in mortgage modification emerging as an option accepted much more frequently including reducing interest rates for the remaining life of the loan. Some can even involve principal forgiveness in limited cases. Often a professional foreclosure negotiator can get these plans approved even when the debtor can not.
  3. Repayment Plan. Easy to understand, easy for creditor acceptance. The debtor pays a portion of the arrearage and agrees to pay the rest in addition to the regular payment over a period of months. With proof of the income and the proper down payment most lenders will accept this type of plan all day. Expect half of the arrearage plus their legal fees get paid up front with a promise to pay the rest of the arrearage in addition to the regular payment within six months. Plans with less money down and paid over a longer period of time can be negotiated by loss mitigation professionals.
  4. Deed In Lieu Of Foreclosure. Here the debtor gives the property back to the creditor usually in exchange for their forgiveness of potential deficiencies. In other words, the homeowner gives the keys and deed to the bank then walks away without owing any more money.
  5. Short Sale. The property sells to a third party; the creditor accepts this price as full settlement of the debt even though the short sale price does not cover the mortgage owed.
  6. Friendly Foreclosure. The creditor or a friendly third party that has bought the mortgage sells the property at foreclosure to clean the title of other lienholders. Later the property sells back to the debtor or another predetermined entity.
  7. Repurchase After Foreclosure. Just as it says, buy back a foreclosed property after the auction. Here again, the homeowner needs private financing or a subprime loan. Never expect the foreclosing bank to offer a new loan to the foreclosed borrower. Don't count on this one, it rarely happens.
  8. Forbearance. In exchange for money or the debtor taking some other action (perhaps listing the property with a realtor or making repairs) the creditor agrees to temporarily cease legal actions. Some more forgiving banks might even grant a forbearance just to allow time for a bad situation to improve. Examples include granting time for a person with medical issues to get healthy and return to work or an unemployed debtor to find a new job.
  9. Baby-Sitting. I made up this term for a situation I sometimes see; it's really a form of forbearance. A property owner, most times with investment property, can not pay the mortgage. The bank does not want to take title to the property, probably because of environmental, management or other liabilities. The property owner keeps title and "baby-sits" the property until one party or the other can execute another option. In this category I might also include forced baby-sitting. Let's explore this because, while a rare set of circumstances, it represents a nasty situation if it happens to you. Imagine a property in a neighborhood so bad or in such rough shape that the bank decides they do not want it in their name. The homeowner might walk away and figure that the bank will foreclose and they just lose the home. Unfortunately, in the worst of these cases, the home becomes a liability not an asset. The city can sue the homeowner to make repairs, keep the house safe, or tear it down all at the expense of the owner. The homeowner remains forced to take care of the property while the bank just sits in the background with the mortgage still owed and accruing interest while the owner faces the municipal issues.
  10. Full Reinstatement. This really falls under the paying debts in full group, but many people feel once the bank refuses to accept individual monthly payments they already lost any right to simply catch up. In just about every state the homeowner maintains the right to a full reinstatement right up to the foreclosure date. Full reinstatment stands as one of the few mortgage help options to consider for do it yourself foreclosure help.

Q. You just mentioned deficiencies, I've heard of those could you explain them?
A. When you sign a promissory note to pay $100,000 back to the bank for money loaned to you for a home purchase it means you owe them $100,000. If five years later you are foreclosed on and the bank gets $90,000 at the sale you still owe them $10,000 more.

Q. They took the house, isn't that the end of it?
A. Not in most states, the extra money still owed is called the deficency. By the way, added to that $10,000 will be back interest and the bank's legal and foreclosure charges. Sometimes if the housing market falls enough the deficiency amounts to more than the value of the home itself.

Q. What happens to this deficiency after the foreclosure?
A. Most times it becomes unsecured debt.

Q. Can unsecured debt be worked out?
A. Yes. The two most common ways to workout unsecured debt are paying it off in a lump sum at a discount or establishing a long term payoff plan. This goes for unsecured debt such as credit cards too. If you need to, bankruptcy takes care of deficiencies too.

Q. How about figuring a discount and then doing a payment plan?
A. The best chance for settlement if you want a discount from a creditor will pay them all cash at the time of settlement. Some plans may give you a few months. Many agencies, staffed by attorneys, frequently negotiate discounted settlements on credit card balances over a few years. B>

Q. It sounds like I need cash for a workout, where do I get it?
A. Most times when people need money I see it come from relatives , friends, loans from employers or from retirement plans, reverse mortgages, money saved when not making mortgage payments, or a loan on hard assets. Settlements over time use money from ongoing earnings.

Q. Who would give me a loan now?
A. Many companies business' revolves around making just these types of loans, Expect a lower loan to value ratio, higher interest rates and large up front fees. A list of firms making home mortgages to debtors with credit problems may be found at the Alternative Mortgage Sources USA site.

Q. What if I just can't get cash anywhere?
A. Sometimes this becomes a case where doing nothing for a while or allowing a foreclosure is the correct option. It may even be a case where bankruptcy stands as the best selection.

Q. Why doesn't everyone workout their debt at a discount?
A. First, a creditor only does a workout to benefit themselves. There must be a substantial chance they would end up with even less if they refuse to work with you. Second, your credit will suffer.

Q. Do I have to be on the verge on bankruptcy for a workout?
A. No, I've seen them done for millionaires, but they can be much more difficult, the terms not as favorable, and the underlying principal that the creditor must come out ahead still prevails.

Q. How does it work when a debtor has substantial wealth?
A. In most cases the debtor has a large portfolio of good assets with one in trouble, usually investment real estate for which they have signed a note with a personal guarantee. Imagine they have been supporting the bad property for years and have had enough. They may buy back their guarantee at a discount or give the bank a deed in lieu of foreclosure with a plan to pay only some of the deficiency.

Q. Why would a bank do this?
A. "Time value of money" is very important to a bank. A smaller amount in their pocket today has more value than a larger sum years down the road. Settlements may also avoid steep legal fees.

Q. How does a bank figure settlement prices?
A. This can be very complicated and differ based on bank accounting and philosophy.

Q. When do workouts become more cost effective than bankruptcy?
A. It depends somewhat on the type of workout and who negotiated it, but the most important factor will be the asset itself.

Q. What percentage can a note be negotiated down to?
A. The best answer to this question is the note does not matter much, the value of the asset means so much more. I've seen some notes settled for less than five cents on the dollar and others not settled for less than a full dollar on a dollar.

Q. How does the asset come into it?
A. Take two recent examples. Case 1:A house with a $240,000 first mortgage and over $2,000,000 in blanket government liens. The house was valued at $155,000. The first mortgage settled for $117,000, the government agreed not to take a penny. The loses where large, but justified. Case 2: A couple had a house worth $50,000 and a mortgage of $12,000. Even though they had over $70,000 in unsecured debt it didn't matter. The first mortgage holder would not write off any money at all, nor did I expect them to.

Q. I can mix and match what I keep if I have several properties?
A. If you can negotiate it. I've even seen it done with multiple debts owed to one creditor. In fact, unless you file for personal bankruptcy you can mix all of the debor's options among your various obligations.

Q. Will you give me an example of that?
A. Take a large asset portfolio item by item. One partnership can not be worked out, this one partnership files for bankruptcy. Four properties settle through workouts. Some trade creditors have never been heard from, nothing gets done for them. In order to keep a credit card, one is paid in full.

Q If I try a workout that fails can I still file bankruptcy?
A. Yes, all options will still be available.

Q. How does a workout look on my credit report?
A. It depends on how the creditor reports it. They could say nothing or report it as paid at a discount or a paid charge off depending on what happened. These marks are bad, but not as bad as a bankruptcy or ignoring the problem. You can rebuild your credit in a few years. Depending on how bad your credit was before the debt workout a settlement to avoid bankruptcy can make it better than it was.

Q. Are there tax consequences of a successful workout?
A. Sometimes a creditor will send a 1099 statement for the amount they have written off. The government calls this forgiveness of debt income. You must report this on your taxes. Most people I deal with then use the exception in the tax law that if you are insolvent before the forgiveness and insolvent after the forgiveness that you do not have to pay tax on it. You should, however, report it and fill out the proper forms if you get a 1099 from the creditor. Banks and debt collection agencies love to talk about the forgiveness of debt income as tool to make you pay in full, but do not let them scare you.

Q. What types of debt can be worked out?
A. Almost all debt can be worked out depending on the asset values. Government backed student loans come up as one of the few exceptions, even here fees and interest only may be negotiated. Remember that a bankruptcy won't discharge most student loans either unless there exist special circumstances. For more information on student loans read about the options for student loan debt without bankruptcy or when a bankruptcy can discharge student loans.

Q. Can I pay back the rest of the money later after a debt workout?
A. If you want to there is no law against it, but it may not help your credit report and I'll bet you have better uses for it than the creditor does.

Q. Do I have to deal with all of my debt at once?
A. You should have a master plan, but that plan may include dealing with the creditors one by one over a few years time.

Q. Explain the disadvantages of a workout.
A. If your credit has not yet been scared a workout may be reported almost as adversely as a bankruptcy. The most common deterrent for this option becomes free cash. It may sound great to settle $50,000 of credit card debt for $25,000 and you may be thrilled to do it, but if you don't have $25,000 it can't happen. On top of this you will have to pay fees to whoever negotiates the workout, so the whole process may be more cash intensive in the short run. An example comes to mind of a house with mortgages, arreages and legal fees of over $90,000 due. Negotiating the mortgage debt down to $32,500 cost $2000-$3000, but the trasaction fees to borrow the money rose to over $10,000 because of unique circumstances. Yet even with these figures it saved the debtor hundreds of dollars each month from their new payment and the equity position in their home increased by $45,000 overnight.

Q. How do I pay for a workout negotiation if I can't pay the creditors now?
A. If the mortgage company has stoped taking payments use that money, or use the money earmarked for making the minimums on your credit cards to fund the workout. If cash flow seems tight be sure to read "Who to pay when you can't pay everyone."

Q. Where can I get help for my own personal situation?
A. If you currently have trouble with mortgage payments try our interactive foreclosure prevention help tool. For other debt problems you might try to learn more about options and view the automated analysis program at Debt Advice Free or use a form to hear from professionals providing various debt solutions and decide on the best plan after hearing what they each have to say.

    Click here for Free debt analysis information.

For information on retaining or consulting with Mory Brenner, Esq please visit the contact page.

Nothing contained herein should be construed to constitute advice for your personal circumstances. This is intended as a peripheral exposure to the various options available, but by no means is this a comprehensive or exhaustive analysis of the bankruptcy laws or their alternatives. Whether or not you should file a Chapter 7 bankruptcy, Chapter 13 bankruptcy, or any bankruptcy, will vary depending on your personal circumstances and should only be undertaken after careful consideration, analysis and after consultation with an attorney experienced with such matters. These pages may contain information and rules peculiar to the Commonwealth of Massachusetts.

This material may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

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The most recent update of this page occured on 03/09/2011.

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