Submitted by New Jersey Bankruptcy Lawyer, Lee. M. Perlman
After a recent client meeting, I realized just how impactful financial conversations can be. It is truly amazing to see positive changes in a family’s life after what seems like a relatively straight forward, simple conversation. I met with this couple almost a year ago and they followed up a few times after that conversation with some quick questions. Then, 10-11 months went by and I saw them on my calendar. I was interested to hear what had developed in their life.
Here’s the situation: She works for a big company that offers Financial Finesse services to their employees. He is a self-employed medical professional.
As the recession hit, his business took a turn for the worse. His patient visits declined annually and his expenses climbed. He kept taking on more debt as his rent increased and he tried to enhance his marketing efforts to attract new patients.
When I first talked to them, they had no liquid savings and zero personal debt outside of their mortgage, but a mountain of business debt. We talked about their situation and their goals. They are very close to 60 and she would like to retire by age 65. He would love to work as long as his body will allow him to continue.
We looked at multiple ways for them to address their situation and with over $100,000 in business debt and a practice in decline, they were facing some less than pleasant potential solutions. Here are some of the ideas we bounced around prior to them making a decision and running with it.
- There was no reasonable hope the business could help them earn their way out of debt, so we looked at their personal assets as a potential source of funds to pay down the debt. Because the business had been “hemorrhaging dollars” for a number of years, they had exhausted all of their liquid finances along the way. The only real asset they had left was their home and they were considering a home equity line of credit to pay off as much of the business debt as they could. The downside of this option is they would end up collateralizing their home for business expenses.
- Her 401(k) was gaining momentum and becoming a sizeable asset, with almost a $250,000 balance. We talked about the pros of taking a large hardship withdrawal from her plan – paying the debt off completely. We also talked about the downsides – a huge tax liability and needing to work an additional 5-10 years to recover the lost ground.
- I very delicately waded into the waters of bankruptcy. They had very clear concerns. What would that do to their credit scores? What would that do to his reputation? He took on the debt so isn’t he morally obligated to pay it off?
All of the debt was in the business name and not their personal names. Much of the debt was owed to a real estate management company that itself was in bankruptcy proceedings. They had trepidations about this path, but from a purely financial viewpoint, their situation was a textbook case of when bankruptcy makes sense.
Those were the options we talked through and we also discussed the ongoing operations of his practice. His biggest expense was rent and with a declining revenue stream, I questioned the level of rent. He was already a few steps ahead of me and was in the process of joining forces with other providers and moving into a space that was already operational and in use. When talking specific numbers, this move lowered his rent by about 80% and made staying out of debt a relative certainty. Our first conversation and follow up emails confirmed that he was leaning toward moving into the new space and assessing his options for the debt once the move was completed.
Last week, we had a conversation about what they did and how they are progressing toward an eventual retirement. They let me know that they in fact went through with a Chapter 7 bankruptcy filing. It was approved and their business debt was forgiven
On the personal side, they moved out of their house and bought a much smaller one since their kids are away at college or out on their own post-college. The net proceeds from the downsizing allowed them to reduce their mortgage payment by about $750/month and that is allowing them to build a substantial cash cushion and her to contribute the full $18,000 to her 401(k) as well as the $6,000 post-50 catch up contribution. He is going to fund a retirement plan for himself and we discussed multiple options for that during our follow up conversation.
- We looked at refinancing his debt through a private lending opportunity that was presented to him. The upside was that the interest rate was incredibly low. The downside is that the payments were still greater than the income his practice was generating.
The moment that I will remember for a very long time in our most recent conversation was when they told me that they were totally opposed to pursuing bankruptcy because they felt morally obligated to pay off every penny of that debt. When I told them that they were a “textbook” example of bankruptcy, they looked at each other and in that moment, knew that they had to look at it. They went to a library and looked at a number of financial textbooks. When they read about bankruptcy for businesses, they saw themselves in a lot of the examples. That quick conversation changed the trajectory of their financial future.
The bankruptcy isn’t bailing them out because they have poor financial management skills. It’s helping them “hit the reset button” and get back to being the fiscally responsible couple they had been up until the recession and geography (their town is growing smaller by the year as people move to other local areas) hit with a force greater than his practice could handle. Bankruptcy exists to help people who have faced with situations very similar to this. But bankruptcy can’t be a cure all.
Some people should absolutely not consider bankruptcy. Some of those types would be people who need a high-level security clearance as bankruptcy could disqualify you from receiving that clearance level. Public figures and those in professions that require reporting/disclosing bankruptcy proceedings would be candidates for whom bankruptcy might not be suitable.
This couple’s debt was business related so that made bankruptcy a great option. Debts that are generally NOT able to be discharged in bankruptcy are IRS debt and student loan debt. It also wouldn’t be a great option for those who wouldn’t necessarily be considered “financial stewards” and have a lot of consumer debt because of living way beyond their means and not wanting to change that. If the behaviors that create a credit card heavy lifestyle aren’t changed, bankruptcy would only be a short term fix. It might even make things worse.
Postscript: The new arrangement with the other practitioners is working extremely well. He has had four consecutive months of increasing revenue and can see a point in the next 6 months when he will be able to fund a retirement plan for himself for the first time in over a decade. The bankruptcy didn’t impact their credit scores much at all. He went from 805 to 750, but is now back at near 775.
For the first time since the recession started, they feel like they can breathe. The incredibly stressed couple I talked to initially had magically transformed into a relaxed, fun couple. There was laughter and optimism in our most recent call when during the first call all I heard was self-doubt, negativity and zero hope for the future. For me, seeing that I made a difference in the lives of a couple and the potential ripple as they interact with the rest of the world is exactly why I do what I do.
Originally published here by Forbes.com.