“Well, I got a job and tried to put my money away. But I got debts that no honest man can pay.”
— Bruce Springsteen
It was June. I was attending a wedding of a friend and I met a man in his late 20’s, who had recently fallen into debt. It began with a serious biking accident. His finances had been on shaky ground before his accident. After a six-month hospital stay, his finances were in trouble.
He was better now and wanted to rebuild his life. But he had been out of work for a while and faced the new challenge of climbing from debt. He had amassed $20,000 in credit card debt, private loans, and interest growing every month.
As I spoke to him, one of the things that made an impression on me is how little the average Canadian really knows about the debt industry.
Here’s an example to illustrate the common strange beliefs we have about debt. Even if a Canadian has a very small amount of money to invest (such as five to ten thousand dollars), they will read blog posts, get professional advice from their bank or a financial advisor, and even buy a few books.
I can bet almost every Canadian has read a popular personal finance book such as The Wealthy Barber or Rich Dad, Poor Dad but how many of us have ever read a book about debt, one of the most dangerous and costly financial activities we can engage in?
A $10K investment might pay 0.5% in return. Yet, $25K in credit card debt will cost you 18% every year.
Money is always a very emotional subject and when we apply this emotional thinking to debt, we can get into serious trouble.
The goal of this guide is to explain the structure of the debt industry and to show you common traps to avoid.
I’ve worked in this industry for 12+ years. My company has helped thousands of Canadians get out of debt and I’ve seen it all: from massive credit card debt, bad business debt, upside-down mortgages, and crippling student loans.
By the end, you’ll know:
- The best alternatives to bankruptcy plus the pros and cons of each option.
- Concise explanation of the structure of the debt industry. If you understand this, you’ll be able to evaluate different advice and options better.
- A better understanding of the help available for Canadians experiencing financial hardship.
This advice is based on my own experience in the industry and contains the same options that my company has used to help thousands of families, businesses, and individuals build a plan to get out of debt.
Let’s take a look at the best options for avoiding bankruptcy.
From debt to education – debtor know your options!
In order to get out of debt, we really first need to understand the structure of the debt industry.
Why would you want to do know this?
It’s important that you read the entire list, as understanding your options is only a small part of the process. You then next need to understand the role everyone plays and probably the most important part of dealing with debt.
You need to understand that solving the debt issue is a small part of the plan. Many Canadians simply look for temporary fixes, but this leads them back into debt. The key is to develop a comprehensive plan to rehabilitate.
I’m going to go through the basic options for avoiding bankruptcy and getting out of debt in Canada.
When faced with looming bankruptcy, there are five basic options available to you. But the longer you wait, the more likely you might feel forced into one of these options by a creditor and make the wrong decision.
Your basic alternatives to bankruptcy
Alternative #1: Sell your personal assets
This may allow you to pay down your debt and protect your credit rating. Creditors will usually give time to see a debtor make an effort to pay off or pay down their debt.
The downside with this approach is usually the debtor needs personal assets to live and selling the assets in this situation you will not likely see you get full value for them.
You will also repay 100% of your debt.
This is usually the first route many people take. However, I would think carefully about selling assets quickly, especially if this only means a temporary fix to your debt.
So while this one of the most common options it can be dangerous. Selling your assets might help in the short-term but could cripple you in the future.
Alternative #2: Get a Consolidation Loan
This allows you to avoid personal bankruptcy or any other type of debt restructuring and will likely reflect more positively on your credit rating.
The terms of repayment may be more manageable than making a number of payments to all the debts individually, and the interest rate on the loan may be more reasonable than on the individual debts.
The problem people face is their debt levels are simply too high, and consolidating the debt is simply replacing one debt for another and the payments may still be unmanageable.
Your credit score and your income will determine if you qualify for a consolidation loan and this may require a co-signor and/or security and depending on how the lender assesses the risk. This could result in a higher interest rate and now the risk is also an associated risk to the co-signor. You have added the risk of potentially losing any security pledged.
There is also no potential to negotiate the amount of debts, which is ultimately the best way to reduce the payment and provide a strategy to actually repay the debt unless you can considerably lower the interest rates.
A consolidation loan can be a wise choice. It is definitely one of the better options out there, as long as you consider the caveats above (it depends on your income and amount of debt).
Alternative #3: Credit Counselling Societies and non-profit Credit Counsellors
As you are not paying back the debt on the original terms and conditions, this will reflect as an R7 on credit rating for the length of time it takes you to pay off the debt (usually 5 years) + an additional 3 years so 8 years in total.
Many Canadians do not know that the non-profit society is actually financed by creditors. The debtor pays the credit counselling society and they pay the creditors.
The fees paid by the debtor are usually minimal but rarely do they offer less than 100% of debt repayment but can usually reduce the interest.
So are the credit counsellor societies a good option?
My personal experience is that you will likely pay much more back to your creditors (in the thousands). If I was in debt and based on what I know from working in this industry, this would not be my personal choice. You can get free help from credit counsellors, though. However, I would not personally (nor professionally) recommend this option to my family or friends in debt.
Alternative #4: Informal Proposals
This involves directly negotiating a onetime settlement with each individual creditor.
The repayment can be structured based upon debtors ability to pay but usually requires a lump sum one-time payout where creditors agree to accept a lesser amount.
This will usually require showing the creditors details around your current financial situation and an explanation of your financial hardship.
The creditors are not obligated to settle but will if they feel the offer is a better return than if the consumer declares bankruptcy.
It is prudent, though, when considering informal proposals to talk to a professional first before negotiating with your creditors. The reason being, your creditors work in this industry; you are a consumer. You need to be educated about what to avoid and how best to approach your creditors before volunteering a settlement, you need to understand the correct process to obtain a full release from the remaining debt and you need to know the implications when you stop paying the creditors and enter into an informal negotiation.
Alternative #5: File a Consumer Proposal
A consumer proposal is a formal offer to all your creditors made through the Bankruptcy and Insolvency act. It is a provision available to debtors that need new terms to repay the debt and want to avoid filing bankruptcy.
If the majority of creditors accept the proposal it is binding on all creditors. If creditors don’t accept the deal then the consumer is in the same position they were in prior to filing.
Filing a consumer proposal places a legal stay of proceedings in effect, meaning no creditors can take any action to collect the debt.
The proposal must provide creditors with more than they would receive if the debtor filed bankruptcy. Certain debts, such as debts for alimony or maintenance cannot be included in the proposal. A bankruptcy trustee is required to make any filing under the Bankruptcy and Insolvency Act.
This reflects as R7 on credit rating for the length of time it takes to repay the proposal (usually 5 years) + an additional 3 years (total 8 years). 4 Pillars has a program that can reduce the impact on your credit rating to 3 years.
Consumer proposals are often ranked as one of the best options for getting out of debt, depending on your situation.
Last option: File for Bankruptcy
Bankruptcy is a formal arrangement and binding on creditors. The debtor applies for legal forgiveness of debt and the process can last between 9 and 36 months.
The debtor is required to complete monthly income & expense reports for the length of the bankruptcy and the monthly bankruptcy payment is determined by income and family size and is monitored throughout the term of the bankruptcy and an increase in income can extend the term of the bankruptcy.
When a consumer declares bankruptcy they hand over all their non-exempt assets to the Bankruptcy Trustee and these are liquidated and the funds given to the creditors.
Bankruptcy has the most severe impact on your credit rating and reflects as R9 for 6 years after the discharge period.
Again, it comes back to the long-term financial goal of not just getting out of debt, but rebuilding your finances so that you can enjoy long-term stability and build up your assets. Bankruptcy is a large interruption to your ability to accumulate assets and can have long-lasting implications on your ability to get ahead (beyond just the 6 year credit rating purgatory).
Think about short-term and long-term consequences
Now you understand the options, we need to look at what makes the plan to deal with your debt successful.
The key is to deal with debt as part of your long-term financial plan. You need to clearly understand your long-term financial goals and then look at all the options you have available.
Getting out of debt is about cash flow & credit rebuilding
The two key areas that are often missed when creating a plan to manage debt are the pre work analyzing cash flow and the post work implementing a comprehensive credit rebuilding plan and using any additional cash flow to meet your long-term financial goals. These are ultimately the cornerstone of the debt restructuring plan and can be the difference between success and failure.
I don’t mean this as a product pitch, but 97% of people entering into a debt restructuring plan with 4 Pillars successfully complete the program and we believe this is the highest in the industry.
We credit this success to making debt repayment “livable.” You have to look out for your overall financial situation. You can’t just dump every penny into debt payments as this leaves you vulnerable and tends to lead to more borrowing, refinancing, and using back up credit as soon as it is available again.
Who should you get debt advice from?
The banks, the trustees, and credit counsellors – who to trust?
Now we understand the options and what makes a debt management plan successful we need to know how to implement the plan and who we need to seek advice from.
This is very important. For example, if you call an independent expert on debt you are obviously going to get a very different answer than if you call your bank and ask them for a lower rate.
Your Bank
If you have good credit, good income and a manageable debt load but need to consolidate your debt payments into one monthly payment to make life easier, your local bank should be able to help you with a consolidation loan at reasonable interest rates.
Now for the more aggressive measures to deal with debt that you are either struggling to pay or never see the ability repay, you ultimately need a plan to reduce your debt as this is really the only way you will lower the payments and create a plan to become debt free.
Non-profit Credit Counsellors
We touched on these earlier in the article and as they rarely have the ability to reduce the debt and but still have a significant impact on your credit rating, a consolidation loan would be a much better alternative and if you don’t qualify or can’t easily afford the payments then you need to move on to one of the other options.
Debt Settlement Firms
A lot of US debt settlement firms have surfaced in Canada as debt levels have now surpassed the US. Here is a very brief overview of how a debt settlement firm works. They attempt to informally settle with your creditors (see above) but in order to do so you need a lump sum payment to make to the creditors, which most people in financial difficulty don’t have.
A debt settlement firm be it US or Canadian will set you up on a monthly payment plan to create a pool of cash that can then eventually be used to settle the debt. Depending on the debt load this can take between 12-36 months.
In this process the consumer has stopped paying the creditors at the request of the debt settlement firm but has no legal protection from the creditors taking action to collect the debt and what we are seeing in theindustry now is when creditors are receiving settlement offers from debt settlement firms they are escalating the legal process to force the consumer to either pay the debt or take a different approach to deal with the debt by filing under the Bankruptcy and Insolvency Act.
Bankruptcy Trustee
The bankruptcy trustee plays a critical role in debt restructuring and any formal restructuring plan filed under the Bankruptcy and Insolvency Act requires a trustee.
Lets look at the definition of the role if the trustee:
‘The trustee is an officer of the court who acts on behalf of the creditors in a fiduciary capacity.’
The fiduciary responsibility is very powerful.
A fiduciary is a legal or ethical relationship of trust between two or more parties.
A fiduciary is someone who has undertaken to act for and on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence.
A fiduciary duty is the highest standard of care at either equity or law.
From this we can see responsibilities the trustee holds and the duty of care they have for the creditors.
If you approach the trustee directly to file under the Bankruptcy and Insolvency Act they will determine which assets are exempt and which assets are available to the creditors and if filing a consumer proposal they will determine the terms to which the proposal will be filed.
The analogy our customers have used when they truly understand the relationship between trustee and creditors is: It is like having your ex wife’s divorce lawyer representing you during the settlement hearing.
The other piece to remember is there are hundred’s of trustees in Canada and they all interpret the Bankruptcy and Insolvency Act in a different way which can have a significant impact on any restructuring plan you enter.
How to choose the right debt relief option
Now you understand all of the options out there. You now need to take the next step.
When selecting a course forward, here is the process we use (you can either do this yourself or seek professional help).
- Review in detail all the debt relief or restructuring options. For example, if you have a mortgage or any other secured debt you will need to factor that into your decision. Basically, you can either research these options in detail or get professional help. I’ve listed a few additional resources below.
- Depending on the route you choose, you will then need to talk to your creditors and negotiate or interview bankruptcy trustees if filing under the Bankruptcy and Insolvency Act. I urge you to be careful here. You do need to proceed with utmost caution as you will be negotiating with professionals who know much more about the industry than you and this can be a very daunting process without someone who has the same industry knowledge as they do looking out for your interests.
- Build a plan and budget that takes into account debt repayment as well as your long-term future.
- Stick to your plan. Pay down debt (preferably at a lowered rate and adjusted principle as agreed upon by you and your creditors) and start rebuilding your financial future with proper budgeting. Pay attention to short term and long term financial needs.
- You will also need to create a comprehensive credit rebuilding plan to minimize the impact on your credit rating. Without this you will only obtain part of the benefit of dealing with your debt and the road to meet your long-term financial goals will be much longer.
I know that you’re still at the beginning of your journey, but I hope at least you now have a list of different options and a better understanding of how the debt industry works.
I hope this guide has helped.
As always, I appreciate your personal stories and responses. You can send a question or message to me here – Paul Murphy – at paulm@4pillars.caand I’ll respond personally.
Additional debt help resources:
Learn more about bankruptcy alternatives in our free 1-hour information sessions.
4 Pillars offers Canadians information sessions, educating you about the alternatives to bankruptcy and how to deal with debt as part of your long-term financial plan. There is no cost to you and our sole mandate is to represent the interests of the debtors and help them make well-educated informed decisions to deal with debt.
You can read reviews and hear about families and businesses we’ve helped here.
These sessions can happen in your city (we have offices across Canada) or via Skype or telephone.
- Get detailed information about consumer proposals, debt consolidation, and how these debt relief options affect your credit rating and mortgage.
- Get expert answers about your current debt situation and offer an unbiased review of your options.
- Information about spousal responsibility and debt, the long-term effect of different options on your ability to get another mortgage, and what you can do to best deal with your creditors.
We’ve helped thousands of Canadian families reduce their debt and are one of Canada’s largest debt restructuring companies.
