How to write off debt
The UK is a country built on debt and a love of plastic. Recent research from PwC found the average UK household will owe nearly £10,000 in unsecured debts by the end of 2016 while, according to figures from the Bank of England, collectively we owe an eye-watering £14 billion in credit card debt alone.
Jonathan Chesterman, advice manager at StepChange Debt Charity, says spiralling debt issues can cause a huge amount of stress for people and their loved ones.
"Being deep in debt can be an overwhelming experience. People often don't know where to turn and all too often people struggle on in the hope that their situation will get better but in reality they are just getting themselves into a deeper and deeper hole," he says.
"And debt is rarely ever a purely financial problem. It can cause mental health problems, it can impact on people's relationships with friends and family and it can impact on people's ability to do their job."
So what can you do? It might sound like a small and insignificant step but the first action you need to take is to admit you have a problem in the first place. Be honest with those close to you - and yourself - about the predicament you find yourself in.
You will then need to calculate exactly how much you owe and begin to sort your debts between priority and non-priority payments. This, however, is not always as simple as prioritising the largest debt first. Instead, you'll need to ‘triage' your debt to ensure that secured debt, such as your mortgage, or debt that affects your ability to earn a living or could eventually lead to a prosecution, is dealt with first.
After your mortgage should come your gas and electricity bills and then you should deal with any Council Tax arrears you may have - if you don't, the local authority has the power to take you to court for non-payment.
Other high-priority debts include any goods you rely upon during your life. This could be something like a car if you are disabled and need it for mobility purposes; or if you bought your car via a hire purchase agreement and fall behind with the payments, it could be repossessed.
In contrast, non-priority debts include credit card debt, overdrafts, unsecured loans, and the non-payment of water bills.
Contacting your creditors
The next course of action is to contact your creditors as soon as possible to explain the situation and see what can be done. It's important that your creditors know what is going on - if they don't know you're struggling to pay, then they'll assume you are simply deciding not to meet your repayments and take action against you.
One way they may help is by offering an alternative repayment plan. For example, it might be that your inability to pay is short term due to being off work because you are ill. As a result, your creditor may agree to give you a payment holiday or allow you to reduce your payments until you a fit enough to return to work.
You could also discuss the possibility of increasing the amount of time you have to settle the debt by asking your lender to consider adjusting your payment schedule, giving you more time to pay what you owe.
Remember that most legitimate lenders simply want their money to be repaid, so it is in their interest to help you find a resolution to your problem.
Debt management plans and debt relief orders
If your debt is significant, you may have to inform your creditors about what you can repay in a formal manner through something called a Debt Management Plan (DMP).
A DMP is an agreement between you and your creditors to pay all of your debts, usually drawn up by a third party. You make regular payments to a licensed debt management company, which will then share your money between your creditors.
The best way to do this is via a specialist debt charity such as StepChange. The charity will help you work up a budget so only money you can afford goes back to the creditors on a monthly basis and, unlike many other debt management companies and others that could be considered unscrupulous, won't charge you a fee to do so.
Bear in mind that your creditors do not have to agree to the reduced payments and DMPs can only be used for unsecured debt.
A Debt Relief Order (DRO), meanwhile, is a way for you to have your debts written off if you owe less than £15,000 and have very few assets (less than £300 and less than £50 in surplus income a month) and is viewed as a low-cost alternative to bankruptcy.
You will have to pay a one-off fee of £90 to the Insolvency Service to set it up but you won't pay anything towards your debt and interest payments for 12 months. If your financial situation hasn't improved in that time, then your debts will be written off.
However, you can't apply if you are a homeowner and a DRO will have an impact on your credit rating, too.
Individual voluntary arrangements and bankruptcy
If you are suffering from extreme hardship, then you could consider an Individual Voluntary Arrangement (IVA). It is a formal agreement between you and your creditors to pay back what you owe over a period of time at an amount you can afford.
They usually last five or six years – so a longer time period than a DRO – and at the end of the period any remaining debt is written off. As an IVA is legally-binding, creditors are not able to chase you for the debt once it is in force.
However, an IVA does come at a cost. Because they are set up by an insolvency practitioner, you could be looking at paying up to £7,000 to enter the agreement – including set-up and annual costs. It is likely you will have to use any savings and your personal pension, as well as selling any large-value items, to meet the repayments.
It's worth noting that IVAs are really only suitable for people with severe debt whose only other option is bankruptcy. They are not a quick-fix solution as you'll have to repay your debt, albeit at a reduced level, via the IVA for years.
That said, if you have debts that are so large that you simply cannot repay them and your situation is unlikely to change in the foreseeable future, then you may have no choice but to declare yourself bankrupt.
Once you have been made bankrupt, an ‘Official Receiver' will take control of your finances, including any assets you have, and it will also deal with your creditors on your behalf.
Usually the slate is wiped clean after 12 months and the money you owe is written off. However, this is no easy solution to your financial troubles, as it comes with long-term, serious implications for your finances and career prospects.
Firstly, there is the upfront fee of up to £705 in England and Wales, so not all debtors can afford to do it. In addition, it's likely any assets you have will be included in your bankruptcy, while you will also be disqualified from running a business and banned from certain job roles – such as those in financial services.
Your bankruptcy will also remain on your credit file for six years, so you will find it very difficult to borrow money in the future.
All of the agreements come with pros and cons and none of them should be entered into lightly. Whatever you do, make sure you seek advice from debt professionals to see what would be the best option for you and don't bury your head in the sand.
Chesterman says: "Getting advice is an essential part of this process. People need to make sure that they're choosing a solution that is the right fit for their individual circumstances and they need expert advice to help them through each step of the process.
"Getting out of debt can be difficult but the support and knowledge of experienced advisers can make it a much more manageable process."
An alternative to bankruptcy, an Individual Voluntary Agreement is a legal agreement drawn up between the debtor, all creditors to whom money is owed (banks, credit cards etc) and a licensed insolvency practitioner who then administers the arrangement. Unlike a debt management plan (DMP), which is a more casual arrangement, an IVA is a legal process by which your unsecured creditors cannot then pursue you for payment of your debts outside the agreement. To qualify for an IVA, you must be a private individual (not a company), your debts must exceed £15,000 and you must have a regular income. If you are a homeowner with equity in the property, you may have to remortgage and use the equity to clear some of the debt before you enter into an IVA.
Generally speaking, insolvency is to businesses what bankruptcy is to individuals. A company is insolvent if the value of its assets is less than the amount of its liabilities, or it is unable to pay its liabilities (loan payments) as they fall due. It’s an offence for an insolvent company to keep trading, so the main options available to an insolvent company are: voluntary liquidation, compulsory liquidation, administration or a company voluntary arrangement.
Hire purchase agreement
A hire purchase or ‘conditional sale’ agreement is generally used for buying cars or furniture whereby the debt of the goods belongs to the organisation they were bought from (the creditor) until such a time as the debt is paid off. Only then do they belong to the purchaser. Not to be confused with an ordinary credit agreement. With an HP agreement you can’t sell the goods until the debt is repaid. If repayments are missed, creditors can demand the return of the goods or can repossess them. However, if more than a third of the total debt has been repaid, creditors have to pursue payment through the county courts first. With an ordinary credit agreement the buyer owns the goods (and can sell them) and a creditor can demand repayment of the debt but has no legal right to repossess the goods.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.
A person (or business) unable to pay the debts it owes creditors can either volunteer or be forced into bankruptcy – a legal proceeding where an insolvent person can be relieved of their financial obligations – but loses control over their bank accounts. Bankruptcy is not a soft option. Although it may wipe the financial slate clean, it is extremely harmful to a person’s credit rating (it will stay on your credit record for six years) and will adversely affect your future dealings with financial institutions. Bankruptcy costs £600 paid upfront.
“Arrears” tend to be associated with debt. If you fall behind and miss payments on any outstanding debt, the amount you failed to pay is an arrear – the amount accrued from the date on which the first missed payment was due.
Debt management plan
Not to be confused with a consolidation loan or bankruptcy, a DMP is a service offered by a specialist debt management company that will negotiate with your creditors to change the terms of how they get their money back. The debt company will renegotiate your debt repayment terms and then deal directly with your creditors on your behalf, and you then pay the debt management company, which passes the money to your creditors minus its initial and subsequent monthly fee. This can be as high as 20%, which means you’ll pay down your debts slower than you thought.