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Debt Consolidation vs. Bankruptcy


Many people think that debt consolidation is an excellent way to avoid bankruptcy. However, debt consolidation programs can be a bigger headache than most people realize. There are various differences between debt consolidation programs and filing for bankruptcy. A trusted bankruptcy attorney will help you understand debt consolidation vs. bankruptcy and walk you through all of your options to avoid any decisions that can negatively impact your financial future. 

Understanding Debt Consolidation 

Debt consolidation is when you consolidate all of your individual debts into one large debt. There are various forms of debt consolidation, and some are more beneficial than others. In some cases, debt consolidation will combine your credit card debts and payments into one monthly payment. This allows you to make one payment each month instead of several payments if you have combined debts from multiple credit cards. Additionally, the monthly payment amount is often lower. 

This type of debt consolidation usually occurs through credit card balance transfers or a personal loan. There are usually association fees and promotional interest rates that will increase significantly if you don’t pay off the balance by the end of the promotional period. This type of debt consolidation is only a good option if you’re charged a lower interest rate on your balance during the entire repayment period. Otherwise, this type of debt consolidation doesn’t make sense. 

Many debt settlement companies will tell you to stop paying your credit card bills each month and send a payment to the debt settlement company instead. The company will escrow the money to allow the debt to become delinquent. Then, when the debt is extremely overdue, the debt settlement company offers the credit card company a lump sum in a smaller amount than what is owed to write off the debt.

Pros and Cons of Debt Consolidation

There are various pros and cons of debt consolidation instead of filing for bankruptcy. 


All bankruptcy records are public, so debt consolidation will help protect your reputation especially with your current or potential employer. In most bankruptcy cases, credit card companies will immediately cancel your card. By using debt consolidation, you can keep your credit card in case an emergency arises. In some cases, if you have significant credit card debt or have fallen behind on making payments, you might not be able to use your credit card or get approved for additional credit. 

Additionally, debt consolidation will help you simplify your monthly payments into one single payment instead of making multiple monthly payments with varying interest rates. Lastly, debt consolidation will most likely lower your interest rate and monthly payment. This leaves you with more money each month to meet your high-priority debts. 


Although there are some advantages to debt consolidation, it isn’t the best option for everyone and can end up costing you more in the long run. If your debt is secured, you can lose your property if you default on your loan payments. In some cases, if you have a debt consolidation, a cross-collateralization clause allows the lender to take other property that the loan financed if you fail to make payments. 

Lastly, even though debt consolidation might lower your interest rate and monthly payments, it can extend your repayment period. By staying in debt longer, you might end up paying more interest in the long run. If you don’t have good credit, you might be denied a lower interest rate on an unsecured loan. Since interest rates are higher on unsecured loans than secured loans, your monthly payment might not make a difference in your financial situation. 

Debt Consolidations Loans

A debt consolidation loan is specifically designed to consolidate your debt, unlike credit card balance transfers. Most companies require that a debt consolidation loan be secured by your home or another valuable asset. Some lenders will make you pay a significantly higher interest rate than on your credit cards. Therefore, a debt consolidation loan is only a good option if the payment on the new loan fits your budget. 

How Does Debt Consolidation Impact Your Credit Score?  

People might think that debt settlement won’t affect their credit negatively. However, this is rarely true. The debt settlement company will hold back your payments, meaning the credit card companies will report your delinquency to the credit bureaus decreasing your credit score. 

Additionally, the balances on your credit report might be reported as “written off,” but they won’t disappear completely. Bankruptcy can also negatively impact your credit score, but filing bankruptcy will establish a baseline for you to rebuild your credit. All the negative flags on your credit report should stop after the bankruptcy discharge, so you can spend time rebuilding your credit.

Debt Collections and Lawsuits

When you’re in a debt settlement program, the collection activity doesn’t have to stop. You’ll still be subject to collection calls, bills in the mail, and potentially a lawsuit for the delinquent balance. However, once you file for bankruptcy, all collections must stop. Your creditors can’t call you, send bills, or sue you. If they collect from you, they’re in violation of the automatic stay of bankruptcy and at risk of a lawsuit. 

Debt Consolidation Tax Consequences 

Perhaps the biggest surprise you’ll encounter if you’re able to successfully negotiate a settlement with a debt collector or creditor is good old Uncle Sam. The IRS taxes you on any discharged debt. If you owe $5,000 but are able to settle it for $3,000, you’ll be taxed on the $2,000 that was forgiven. Additionally, the tax on the $2,000 can’t be discharged in bankruptcy. Whereas, you’re not taxed on discharged debt in bankruptcy.

Debt Consolidation Doesn’t Always Protect You 

After you’ve missed several payments, the credit card company can refuse to settle your debt and then sue you for the remaining balance. In this case, you end up owing more money than you did originally. The delinquent credit card balance will now include interest, late fees, and attorney fees.

When you file for bankruptcy, your creditors don’t get to choose whether or not they’re part of your bankruptcy case. If you list your credit card company in Chapter 7 or Chapter 13 and your case is discharged, the credit card company can no longer collect from you. Additionally, an automatic stay will go into effect requiring your creditors to stop contacting you immediately. 

Who Can You Trust?

If you decide to use a debt consolidation program, research the company thoroughly before entrusting them with your money. In June 2017, the FTC (Federal Trade Commission) shut down eleven debt settlement companies for collecting people’s money but failing to pay their creditors. Some reliable resources include FTC or Consumer Affairs

If you’re discharging your debts in Chapter 7 bankruptcy or repaying your debts in a Chapter 13 repayment plan, the entire process is regulated by the U.S. Bankruptcy Court. You can trust the bankruptcy process knowing that there are laws on your side to protect you from collection efforts by your creditors.

Middle Tennessee’s Top Bankruptcy Attorneys

Determining whether filing for bankruptcy or debt relief is the best option for you can be daunting. Enlisting the help of a trusted attorney is invaluable and will ensure a smoother process. 

Flexer Lawhas been serving the legal needs of Middle Tennessee residents since 1981. Our experienced bankruptcy attorneys will work diligently on your behalf to provide the best financial outcome for you. 

We have three office locations throughout Middle Tennessee to accommodate your legal needs. Contact us for afree consultation, and we’ll find the best solution to get your financial life back on track. 

Flexer Law Office Locations 

  • Nashville, TN
  • Murfreesboro, TN
  • Columbia, TN
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