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Deciding between debt consolidation and bankruptcy

Many factors can push an individual or family into debt. Medical bills, the loss of a job and underemployment are just a few examples of issues that can lead to reduced cash flow and the inability to keep up with monthly expenses. People in this situation do have options, and they can often benefit from the help of a credit counselor in determining whether some form of debt consolidation or a bankruptcy filing is the best solution. For Kentuckians, who rank 46th in the nation in financial literacy, such counseling can be a vital first step in addressing the problem of debt.

One approach to handling debt is either debt management or debt consolidation. With a debt management plan, a credit counselor helps a person negotiate with creditors for lower interest rates, reduced monthly minimum payments or both. In debt consolidation, on the other hand, a person seeks a new line of credit, either a credit card with a balance transfer option, a personal loan or a home equity line of credit. Previous debts are then consolidated into the new line of credit, which will potentially offer lower monthly payments and lower interest rates.

In some cases, neither of these options is ideal for people in debt. One potential problem is taxes; if a creditor forgives a certain amount of debt, that amount is counted as income and is taxable. It is also possible that a person's income is simply too low to allow for debt repayment. In that case, the best option may be filing for bankruptcy.

Many people seek relief under Chapter 7 bankruptcy, which allows for a tax-free discharge of debts but which may also involve the liquidation of some assets to pay creditors. An attorney may be able to assist clients in deciding whether they qualify for Chapter 7 or Chapter 13 bankruptcy, the latter of which allows for more retention of assets.

Source: Wallethub.com, "2015's The Most & Least Financially Literate States in America," John S. Kiernan, accessed on April 8, 2015

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