We have all heard of stories where individuals who owed thousands of dollars in debt, all over a sudden become debt-free. Every where we turn, there is an advert promoting the latest debt-reduction program, and because a lot of people are really desperate to get out of debt, they rush into it without thinking twice about the whole situation. As much as these adverts are promising ‘miracle’ cures for all your debt problems, one thing will always remain true, and that is, to eliminate debt will require a lot of sacrifice on the part of the debt holder. The following article by Laura Rowley gives an example of a person getting out of debt the right way.
Nancy Rivers was working full-time in 2007 teaching computer skills to union workers in Michigan when she got a flyer in the mail inviting her to a seminar on starting an Internet business.
“At the time I thought it was some type of scam, but I figured I’d get a free dinner out of it,” says Rivers, 37. “They ended up talking me into it. They sold me space for six different websites and offered all kinds of support and training, which of course cost money. They said, ‘put it on your credit cards, you’ll be making this back so fast you can pay it off.’ Well, it never happened.”
Rivers, who had an excellent credit score and never carried revolving debt, continued to work full-time while running her business selling candles online. She says in her best month, during the holiday season, she sold 30 candles, but most months averaged five or less. In 2009 she lost her teaching job after the bankruptcy of General Motors, her firm’s largest client. She ran through her savings and maxed out six credit cards and a personal loan to the tune of $80,000. At one point, she lived on canned goods from her pantry.
When Rivers finally landed a new job, she called all of her creditors, asking to set up repayment plans. Most refused outright, and one wrote off the debt, trashing her credit score. She began looking for a debt management program, and chose Columbia, Md.-based CareOne, the only provider she could find with an A+ rating from the Better Business Bureau.
Rivers paid a $30 enrollment fee and $50 a month for the debt management plan. CareOne negotiated her interest rates, which averaged 28 percent, down to 9 percent, reducing her monthly payment from $2,500 to $1,136. (Rivers called back two of her creditors who would not participate in the CareOne program and negotiated lower interest rates on her own.) Since February, she has paid off $12,000 in debt, and if she stays the course, will be debt-free in just over four years.
Management vs. Settlement
Rivers is emblematic of a recent trend: Women burdened by higher debt levels than in the past. In 2009, 45 percent of women who contacted CareOne for assistance had $50,000 or more in debt — up from 33 percent in 2007, according to a recent company study. The fastest-growing demographic: Divorced and widowed women over age 55. In addition, more upper-income women are seeking debt assistance. Between 2007 and 2009, the number of women CareOne clients earning $60,000 or more a year grew 38 percent.
“We hear from women who have been in the workforce a long time, who have been laid of or are in industries that are not growing, so their skill sets are outdated,” says Jenny Realo, executive vice president and chief product officer for CareOne. “They used up their savings to survive and used credit cards for managing day-to-day expenses — groceries, utilities and rent. They are finding themselves having to go back to school to get additional skills or switch to an entirely new field and take a lower-paying job.”
A study by the Federal Reserve Bank of Chicago found workers who lost jobs between 2001 and 2003 and were re-employed by 2004 earned an average of 17 percent less — double the average loss in weekly earnings incurred in the late 1990s.
Under traditional debt-management plans, debtors agree to repay the entire principal they owe at reduced interest rates, with fees removed, so the combined debt can be eliminated in three to five years with a single monthly payment to the debt-management firm. These plans contrast sharply with debt-settlement programs, which are rife with problems. Last week the Federal Trade Commission announced new rules which ban upfront fees, regulate how these plans operate and require more disclosures.
In debt settlement programs, upfront fees previously ran as high as 20 percent of the client’s debt. Some companies required clients to deposit a monthly payment into a designated account and suggested they stop making payments to creditors, allowing interest and fees to snowball. Once the balance in the designated account was large enough, the companies would purportedly negotiate a lump-sum settlement with creditors to reduce the overall debt by half.
But in many cases, creditors sued the debtors for non-payment, and settlement companies took their fees from the special accounts without delivering the promised relief. Since the start of the recession in 2007, the Council of Better Business Bureaus has received more than 3,500 complaints about debt reduction companies.
The FTC rules require companies to disclose how long the process will last, the total cost and potential negative effects of settlement. Also, customers can withdraw funds from the designated account at any time with no penalties, among other changes. (Anyone considering debt settlement should read this New York Times piece first.)
“We fully support the advance-fee ban and believe consumers should only pay the provider when the service has been delivered,” says Realo, whose firm also offers debt settlement. Realo says she would like to see the FTC rules apply to nonprofits as well. “The dirty little secret is that nonprofits (debt settlement programs) are paid by the creditors — the nonprofits receive a ‘fair share payment,'” says Realo. “As they collect funds on behalf of the consumer, they are paid a percentage by the creditor.”
CareOne doesn’t accept funds from creditors in debt settlement, but instead charges customers $35 to $50 a month plus 30 percent of any savings recouped from negotiations with creditors. (Thus if a $40,000 debt is reduced to $20,000, CareOne receives a $6,000 “success” fee.)
That’s a far cry from the 5 percent fee cap that would be imposed by the Debt Settlement Consumer Protection Act currently moving through Congress, introduced in April by Sen. Charles Schumer, D-N.Y., and Sen. Claire McCaskill, D-Mo.
Under the FTC rules, which go into effect Oct. 27, consumers could conceivably remove funds from their designated accounts and try to settle directly with creditors, avoiding settlement fees. But they should make sure any agreement is legally binding.
“We have had creditors tell customers ‘we will only negotiate directly with you,'” says Realo. “They ask for the money to be sent from escrow, and the debtor releases the funds to the creditor, who then reneges on the settlement offer. We have legally binding documents (creditors) have to sign before we release funds. Consumers should make sure they are fully informed before doing the deal themselves.”
The other problem is that debt settlement companies often shoe-horn consumers into a plan whether it’s appropriate or not, says Scott Crawford, CEO of DebtGoal. “Debt settlement could have been decent solution if it were limited to people a step above bankruptcy,” Crawford says. “But they were taking people who could get out of debt on their own and steering them toward an unhealthy solution. If you can make your minimum payments, and hold that dollar amount constant as your debt goes down, you’ll be out of debt in three to four years.”
For $15 a month, DebtGoal offers online “DIY” tools that allow consumers to understand their debts, create pay-down plans, optimize their savings and track their progress — as well as receive community support, a sort of Weight Watchers program for debt.
“One of the most damaging things about debt settlement is it has spread an expectation that there is a magical way out of debt that doesn’t involve any personal responsibility,” Crawford says. “I can wave a magic wand and 50 percent of your debt goes away. At the end of the day, it’s a big lie — either you tank your credit or you’re defrauded.”
Rivers says she’s starting to see the light at the end of the tunnel. “I had never been in that position before in my life — it was very depressing,” she says. “I still have a lot of debt, but I’m making progress and putting money in savings in case something happens and I lose my job. Now I feel like I’m finally getting my head above water.”