Creditor Actions and Debt Relief Options

If you’re struggling with debt, you’re not alone. According to the Federal Reserve, American household debt hit a record $16.9 trillion at the end of 2022, up $2.75 trillion since 2019. Creditors may take several actions if you can’t pay. There are things you can do to help relieve and resolve your delinquencies with your creditors or lenders.

Type of Creditor

When addressing debt, your first step should be to identify the type of creditor for each unpaid bill or loan. Aside from utilities, your creditors will fall into two categories: Secured creditors and unsecured creditors.

Secured creditors issue loans or credit backed by collateral or an interest in property. Collateral is a tangible item that the lender can repossess if you fail to pay your loan. Examples include an auto loan or mortgage on a house. If you fail to pay these debts as arranged, the lender can take back your car or foreclose on your home.

Unsecured debt or creditors has no security interest in your property. Examples include credit cards, personal loans, and medical debt.

Creditor Actions

If your efforts to become debt-free are not fast enough for creditors, they may not be as patient as you’d hope. Creditors can take several actions to recover their money if your cash flow is tight and you fall behind in making payments.

Wage Garnishment

In most situations, a creditor has to take you to court and get a judgment against you before being permitted to garnish up to 25% of your wages. If that happens, you can contest it arguing that you cannot survive on the remaining funds.

There are three situations in which wage garnishment can proceed without a court proceeding:

• The IRS can garnish your wages without a court order, permitting you a 30-day window in which to challenge the wage garnishment
• If you have student loans in default, the Department of Education (DOE) can garnish up to 15% of your disposable income
• If you fail to pay alimony or child support, up to 50% of your wages face garnishment. It can go up to 60% if you are not supporting another spouse or child. An additional 5% may be garnished for support payments more than 12 weeks in arrears.

Your creditor must notify you when taking these actions.

Liens on Property and Asset Seizure

A creditor may also want to put a lien on your property or attempt to take money from your bank account. A lien is a legal interest in your property. You cannot sell the property or get a new mortgage if a lien exists before first receiving permission from the creditor to sell. 

The money made from the sale will go to your lienholder first to pay your debts. If you do not pay your debt to the lienholder, the lienholder may start foreclosure to sell your property to satisfy your debt.

Upon default and with the due process required, a secured creditor may seize the asset used to secure your loan. If your car or home was used as collateral, they can attempt to take it. An unsecured creditor can obtain a court judgment to force you to sell non-exempt assets to pay your debts.

Besides the IRS, most creditors must go through court to take these actions.

Taking Tax Refunds

Only specific debts will trigger a tax refund seizure or “offset.”The IRS can take your refund if you owe:

• Child support
• Spousal support or alimony
• Federal and state taxes
• Student loans in default

The Treasury Department cannot take your tax refund unless it receives a request from the IRS, the Department of Education, or a child support collection agency.

Debt Relief Options

Before your debt problems get this far, there are steps you can take. It’s best to deal with your creditors when you have financial difficulties. You may offer informal arrangements to repay your debts. Explain your financial situation honestly and make a good-faith effort to work with your creditors. Often, they have programs or options to help you.

Loan Workouts

The term”loan workout”describes a more formal, mutually negotiated debt restructuring that does not involve a bankruptcy filing. A workout is a voluntary agreement between you and your lender to pay a loan or mortgage. A deal negotiation occurs without the bankruptcy process.

A workout can renegotiate the terms of a loan, waive specific fees and defaults, and lower your monthly payments. The creditor may agree to lower your interest rate or allow you to skip some payments. Once negotiated, the terms of the debt should be more manageable for you.

Workouts are sometimes called”compositions”or”extensions”:

• A composition settlement is a contract between you and two or more creditors where the creditors agree to take a partial payment of the debt. Once their claim is satisfied, the debt is gone. This type of workout will impact your taxes. Any forgiven debt is taxable, and you must notify the IRS.
• An extension is a contract between you and two or more creditors in which the creditors agree to extend the time to pay the debt. Often, the amount of your payments is less, but you make them for an extended period of time.
• An agreement can be both a composition and an extension. Each deal is different.

Debt and loan workouts are voluntary. Your creditor has no obligation to renegotiate your debt.

Credit Counseling Organizations

Consumer credit counselors can offer many options. Accredited credit counseling can work out a repayment plan with your creditors and help organize a debt consolidation or debt settlement plan. Credit counselors also offer other services, like debt management classes and helping to set up a budget. Money management skills can help you get out of debt and plan for a better financial future.

Be careful of scam debt relief agencies. Some agencies say they are credit counselors, but instead prey on overwhelmed consumers. They offer big promises about resolving your debt, often for a flat, up-front fee. Credit counseling agencies cannot ask for payment before providing services. Find a legitimate credit counseling agency by asking your bank or credit union for recommendations. You can also check the National Foundation for Credit Counseling or the U.S. Trustee program for accredited programs.

Bankruptcy: The Last Resort

If these options have not relieved your debt burden and you face insolvency, you may consider seeking a bankruptcy discharge. Bankruptcy can offer you a fresh start by eliminating many of your debts. A benefit to filing for bankruptcy is an automatic stay by the bankruptcy court. The automatic stay requires that all collection efforts must stop for the duration of your case. Creditors must stop legal actions against you, like wage garnishment and foreclosure. They must also stop calling you.

Under the Bankruptcy Code, two types of bankruptcies are available to individuals or couples: Chapter 7 and Chapter 13.

• Chapter 7 bankruptcy is a liquidation bankruptcy case. If you qualify under the means test required to file under Chapter 7, it will discharge or dismiss certain obligations, including many unsecured debts, personal loans, medical debt, and credit card debt. The bankruptcy estate sells all non-exempt property to pay your debts.
• Chapter 13 creates a plan of reorganization for your debts. A repayment plan is submitted by the debtor for confirmation. This plan is for three to five years. You make one monthly payment to a trustee. The bankruptcy court will discharge your remaining debt if you complete your repayment plan.

Bankruptcy will only discharge certain unsecured debts. You usually can’t discharge recent tax debt, judicial fines, orders for restitution, or child support or spousal support obligations. Student loans are only dischargeable under the limited circumstances where the debtor can meet the substantial burden to demonstrate undue hardship.

Protect Your Rights: Talk to an Attorney

If you are unsure which options are right for you, consider speaking to an attorney about repayment or bankruptcy options. A debtor and creditor attorney or bankruptcy attorney can review your situation and provide valuable legal advice.