You already know that ignoring your credit card bills won't make them go away. Once you default on your credit cards, you can expect the credit card company to call and send you collection letters. You might even be sued—the step the credit card company must take before taking more severe action, such as garnishing your wages.
But you have options. Read on to learn about what happens if you don’t pay your credit card debt and whether filing for bankruptcy for credit cards or another approach, can help.
The first thing you’ll receive when you stop making payments on your credit cards is a lot of collection letters and phone calls telling you that you are in default. After a few months, the credit card company will likely sell your account to a collection agency and charge off your debt (write it off its books).
That doesn’t mean that you won’t owe it any longer. Your obligation to pay simply moves from the credit card company to the company that purchased your debt. The new agency might continue to call and send letters. But a collector who wants to take more aggressive measures, like garnishing your wages or levying on a bank account, must first get a money judgment against you. A collector who thinks it’s worth the cost will take you to court.
A creditor must prove to the court that you owe the money claimed before the court will issue the money judgment. But, with a money judgment in hand, the creditor can forcibly take assets using collection tools like wage garnishments and bank levies. A money judgment will even allow a creditor to seize property—although that rarely happens.
Most debtors can protect property necessary to work and live and some income using state exemptions. In most cases, these are the same exemptions you’d use to protect assets in bankruptcy (a few states have a different set for debt collection). So if you don't have much of value or your income is low, the creditor likely won't get anything. But valuable property, and a certain amount of wages, will be available for the creditor's taking.
See Bankruptcy and Credit Card Debt Lawsuits for more information.
Filing lawsuits and pursuing borrowers in court is expensive. In most cases, credit card companies want to avoid the hassle and expense of litigation. As a result, they will typically be willing to settle your account for less than you owe.
However, most credit card companies don’t consider settling until you have been in default for many months. During this time, you will have to endure numerous calls and other collection attempts by the credit card company or its agents. But even if you are willing to work with your creditors, settling your credit card debt can have adverse tax consequences.
When a credit card company agrees to settle your account for less than the balance you owe, it forgives, or “cancels” a portion of your debt. The canceled part must be reported to the Internal Revenue Service (IRS) on Form 1099-C and is considered taxable income. A significant amount of forgiven debt can substantially increase your tax liability.
Further, recent income tax obligations typically don’t go away in bankruptcy. Once incurred, you probably wouldn’t be able to wipe out the tax obligation in bankruptcy after settling your debt. It’s usually better to file for bankruptcy on the debt before negotiation if there’s a chance you’ll end up filing for bankruptcy later.
Whether the IRS will consider your forgiven credit card debt to be taxable income will depend on numerous factors, including your financial situation. For instance, you might not be stuck paying tax on canceled debt if you can prove you were insolvent. However, tax laws are complex and change frequently. So talk to a tax professional in your area to be sure you understand the tax implications of settling your credit card debt.
People struggling to pay credit card bills who file for bankruptcy can stop collection calls and wipe out credit card debt without adverse tax consequences. However, whether bankruptcy is the right choice for you will on many factors, including the amount of income, assets, and debt you have. For more information, try reading the Top 7 Reasons to File for Bankruptcy Right Away.
Once you receive a bankruptcy discharge, you won’t be eligible for another for quite a while. The exact number of years will depend on the original discharge type, and the bankruptcy chapter filed the next time. For instance, if you receive a Chapter 7 discharge, you won't qualify for another Chapter 7 discharge for eight years. So it usually isn’t a good idea to file for bankruptcy for a small amount of credit card debt. You might end up needing to file for a more critical reason down the road.
Find out how long you’ll have to wait to file for another bankruptcy discharge.