Managing personal debts
| by Andrea Page 29 Mar 2004 Topic: Personal Finance |
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As the number of personal bankruptcies reach record levels, Andrea Page gives some advice on managing debt The burden of personal debt in the UK will become heavier if, as widely predicted, interest rates reach 5% this year. Already the average person contacting the Consumer Credit Counselling Service (CCCS) owes £25,000 to 10 creditors, and personal insolvency levels are at a near 11-year high. In the last quarter of 2003, 10,271 people in England and Wales declared bankruptcy, up 28.9% on the previous year and the most since the first quarter of 1993. And this could accelerate once new legislation affecting personal insolvency comes into force in April. Rather than the current three years, the Enterprise Act 2002 will generally discharge people from bankruptcy after 12 months (this period may be even shorter or longer, depending upon circumstances). Shirley Jackson, senior partner at specialist insolvency practitioners BN Jackson Norton, regularly advises professionals including barristers and architects who urgently need to protect their professional status and company directors who want to remain in business. 'The second occurrence of bankruptcy will be horrendous,' she warns, potentially leading to post-discharge restrictions akin to complete disqualification for a company director for up to 15 years. Managing personal debt effectively hinges on the nature of the debt, and communicating with creditors as early as possible. Priority debts like mortgages, council tax and child support (where creditors can take action leading to repossession of the home or goods or even jail) take precedence over things like personal loans, store and credit cards. John Fairhurst, managing director of free debt advice service Payplan, says mortgage lenders may be prepared to suspend repayments temporarily if you've lost your job but have significant equity and a good repayment record. If card and loan balances are mounting up, one step is switching them to another card charging no interest for a limited period. 'We recommend regularly swapping to take full advantage of 0% credit cards, but you must make sure you're paying the debt off,' says Sue Hannums, savings manager at independent financial advisers Chase de Vere. Get rid of the most expensive debt first, she advises, citing the 'astronomical' rates on some store cards. Often one event triggers debt problems - card and loan providers routinely offer insurance to cover repayments if you're sick, injured or lose your job. Check the smallprint carefully and visit a comparison website like Moneysupermarket to look for cheaper stand-alone protection. Unsecured products like credit cards and personal loans can lend a maximum £25,000 under law. Sue Hannums says Egg's credit card and Royal Bank of Scotland's Mint card (respectively charging 0% interest on transferred balances until August and October) have been known to accept transfers up to £10,000, but this depends entirely on individual credit scoring criteria. Every provider guards its own combination of criteria jealously, although Egg looks primarily at ability to repay (suggesting earnings are especially significant). With an existing large debt to transfer, you may not qualify for the cheapest cards, in which case Sue Hannums says a personal loan may also be worthwhile. Cahoot's is one of the cheapest at 5.9% APR at time of writing, but comparison site Moneyextra listed eight other providers charging 6.5% APR or under. Pick your targets carefully, as numerous applications in succession could dent your credit score. Consolidation loans, advertised specifically as a way to cut monthly repayments on plastic cards and loans, usually lend up to 125% of homeowners' equity. The drawback is you're swapping unsecured borrowing for a loan that puts your home at risk. Repayment terms can be longer than on most personal loans, which brings monthly costs down but increases the total repayment. For example, £10,000 repaid over 20 years to Firstplus costs £104 a month or £25,147 in total (based on its typical 7.9% APR at time of writing and including insurance). A competitive £10,000 personal loan over five years costs around £193 a month and £11,600 overall. 'We're not in favour of consolidation loans. They're not wrong all the time but we have concerns about them,' says CCCS spokesperson, Frances Walker. 'There's no effort made to pay the money directly to the unsecured creditor. You have to know you're the sort of person who won't be spending on credit cards again six months down the line.' She suspects some providers may not scrutinise applicants' budgets sufficiently to ensure the loan is serviceable. A Firstplus spokesperson claims it lends based on ability to repay, not the level of equity, and that it makes extensive income and credit history checks. It won't lend an amount that would cost more than 35% of monthly income to repay, and borrowers must show at least three years' faultless credit repayments. CCCS and Payplan offer free debt advice services and often set up debt management plans - they negotiate reduced repayments with creditors, collect a single monthly amount from the debtor and distribute it. Flexibility is a key benefit, says John Fairhurst: 'If your circumstances change we can renegotiate and make a new payment offer to your creditors.' However, debt management plans aren't legally binding, so creditors could still threaten recovery action in future. 'Most mainstream creditors will accept our recommendations and will freeze interest,' says Frances Walker, but she stresses CCCS never guarantees this at the outset. The Office of Fair Trading identified misleading claims by some fee-charging debt management companies that debts will be written off and interest immediately frozen as a concern following its recent review of the sector. The OFT advises checking the plan's total cost, the repayment amount and duration and the circumstances in which you can withdraw from the contract. 'You need to be very clear what money is going to the creditors each month,' says Frances Walker. 'Sometimes the company retains the first month's payment.' John Fairhurst says a typical fee-charging company will also deduct 17.5% from each monthly payment. With free advice, budgeting aids and sample letters also available from Citizens Advice and National Debtline, paying a third party to manage debt problems isn't necessary. However, debt management plans usually organise reduced repayments on unsecured lending, and Fairhurst estimates they require at least £50 surplus a month to be sustainable. Problems with a priority debt may mean negotiating directly with the creditor. Anyone who negotiates directly with creditors must propose amounts they're likely to accept. 'Much depends on making a case - that is, the amount of information you give creditors and the way you present it,' says Richard Gale, a manager with National Debtline. Repayments must be agreed with priority creditors first and then pro rata amounts offered to secondary creditors based on the size of the debt - if there's no money left for the latter group, they'll need to be informed. Bankruptcy alternative Where there's little surplus income, bankruptcy at least expunges the debt. An individual voluntary arrangement (IVA) is a legally binding agreement that writes it off after the final payment to creditors, which is set up and monitored by an insolvency practitioner. Shirley Jackson sees IVAs as the only real alternative to bankruptcy for professionals who urgently need to protect their status or business, although not really for people who have over-extended on plastic. 'It is a long-term commitment and the length of time is at the behest of creditors. We initially propose three years.' But John Fairhurst sees IVAs as an option for someone who can offer 20p to 30p in the pound over five years - this kind of amount would make a debt management plan too lengthy. Cost is also a factor - BN Jackson Norton's charges £1,500 for the IVA proposal, creditor vote and reassessment if necessary, then hourly for ongoing activities, typically a minimum of 10 hours a year. In Jackson's experience, not all creditors will agree to take payment net of its costs.
BN Jackson Norton, 020 7405 3000, www.bnjacksonnorton.com | |