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Debt Modification Strategies

If you are considering a loan modification, you generally must decide which is more important to you: maintaining your good credit rating or re-working your debt.

John McKindles

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Many individuals who confer with me about debt issues, including real property foreclosures, have already tried to contact creditors in hopes of reaching some compromise for managing debt on workable terms.

What they all too often find is that, unless they are at least two months in payment arrears, their creditors will not talk to them. In other words, unless your credit rating is already jeopardized by slow payments, relief is unavailable. Therefore, it is virtually impossible to retain a strong credit rating while negotiating compromises with creditors; instead, only when credit ratings are made vulnerable can any significant progress be made in debt reconciliation.

This should continue to be the case despite the government’s recent expansion of its program to consider loan modifications of performing loans. The reasons why the government’s revised policy is likely to fail include:

  • It is a government program.

  • Lenders have no compelling reason to follow the urging of the government.

  • There are no effective teeth to the policy.

  • Lenders are notoriously slow to shift policy, particularly when they see no real benefit to them.

  • Many lenders believe, with some justification, that if they delay taking any effective action the government will likely throw more money their way.

Credit Rating vs. Debt Modification

If you are considering a loan modification, you generally must decide which is more important to you: maintaining your good credit rating or re-working your debt. As a practical matter, you cannot simultaneously have both. People who simply cannot meet their contractual terms really have no choice; they are forced by existing factors to pursue some form of debt reformation or reconciliation, even if it means dodging collection efforts.

The variable in this current economic equation is how a judgment, bankruptcy or foreclosure may affect one’s credit rating. Fortunately for many financially distressed people, the consequences of such actions are less devastating now than in years past.

After concluding that the credit score can be sacrificed for the sake of survival, the ensuing concerns become practical and logistical, such as:

  • how best to maximize asset protection while weathering the gauntlet of loan modification, or

  • how to best structure the nature of assets/debt prior to embarking on loan modification – i.e., shifting from unsecured debt to secured debt (or vice versa), from non-exempt assets to exempt assets, etc.

This is not a one-size-fits-all consideration, as there are always unique factors or combinations of factors that impact direction and timing of a course of action. For these and related reasons, I find myself involved much more these days with bankruptcy-avoidance planning than with actual bankruptcies, and with asset protection strategies prior to attempts at debt negotiation.

While some individuals await the government’s unfulfilled promises of economic recovery, others are implementing their own economic recovery plans.