If you ever hope to get out of debt you must have a debt strategy. Worry alone will not change your situation. But before you can even put a debt strategy together, you need to really understand what your debts are, what type of debt you have, and what approach you should take for each of them.
How Much Debt Do You Have?
This should be a gimme. But in a surprising number of cases when I meet with people they really have no idea how much debt they have. Usually the reason is that the debts have been delinquent for quite some time. Payments haven’t been made. The debt has changed hands multiple times. There is likely a big stack of unopened envelopes somewhere in their home. And in the end, people just give up.
A good first step to finding out what your total debt load is, is to get a copy of your credit report. You are entitled to get a free copy of your credit report once every twelve months through www.annualcreditreport.com. The free copy of your credit report will not have your credit score (you have to pay extra for that), but it will have a list of what creditors are claiming you owe them money.
Next, compare what is on your credit report to the bills coming into your home. Likely, if you have medical debts they are not appearing on your credit report. Find the last invoice you received from your doctor or dentist and add it to the pile. Then evaluate if you owe any personal loans to friends or families. Look to see if you have any type of promissory notices or other documents related to those loans. Add them to the pile. Once you know how much debt you have, you need to break them down into two groups: secured and unsecured.
Do You Have Any Unsecured Debts?
In the first pile put all of your unsecured debts. Unsecured debts are basically any debt where there is no property or collateral attached to the loan. The most typical unsecured debts are credit cards, medical bills, and personal loans. There are two things that are vital to understanding about unsecured debts: first, the creditors in this pile can’t do much to you other than be annoying. They can call you on the phone, send you snotty letters, and cause you a lot of stress, but at the end of the day, they can’t take anything from you. At least not right now…
If an unsecured creditor wants to garnish your wages or take property from you they must first sue you, obtain a judgment against you, and then ask the court to allow them to garnish your wages or take other property from you. And, if the system is working right (which doesn’t happen in ever case) you will have plenty of notice before anything like that happens.
The second thing to understand about unsecured debts is that if you end up filing for bankruptcy these types of debts are generally completely eliminated. Gone. Over. Done.
When prioritizing debts many people focus on the credit cards first because they are the loudest and most threatening. However, when push comes to shove, they are the ones that can do the least amount of damage to you in the short term.
What About Secured Debts?
Secured debts are those debts that DO have property/collateral attached to the loan. The most common types of secured debts are home loans and car loans. With secured debts it is important to know that if you fall behind on these debts they CAN AND WILL take stuff from you. As you know, if you don’t pay your house payment it will get foreclosed on. If you don’t make your car payment it will get repossessed. And the creditor does not have to sue you in court before they do these things (in some states banks must go through a court to foreclose – check the laws in your state). They can exercise “self-help” in coming and taking your stuff. So you may wake up one morning and your car will be gone – without any notice.
When it comes to prioritizing debt payment it is best to focus on these types of debts first (if you want to keep the house or car), because if you don’t you can lose stuff pretty quickly.
What About Tax Debt?
There is one exception to the rule. Taxes. A law professor of mine would always say that the government follows the “golden rule” – which is “he who has the gold makes the rules.” The government has the gold so they made the rule that they don’t have to follow the normal debt collection rules when it comes to collecting taxes.
Taxes are usually an unsecured debt (unless they have recorded a tax lien against you). And even though they are normally an unsecured debt they DO NOT have to sue you and obtain a judgment against you before they take your stuff. If your taxes are delinquent the IRS can levy your bank account or garnish your wages without any legal proceedings taking place. They will typically give you plenty of notice in the form of letters before they do take your stuff, but if you ignore them, you may learn the hard way that the IRS can really do whatever it wants.
Now that we know how much debt you have and what types of debt you have, what are we going to do about it? In the next article in this series I will go over debt settlement and debt elimination strategies for each of your different piles of bills. Tune in next time…