Debt doesn’t always have to be a problem, but the following five situations are ones that could mean your debts are more complicated.

1. You have more than one lender.
2. You’re not sure how much you actually owe, or when it’ll be repaid.
3. Your debt payments leave your account on different days of the month.
4. Your debt payments are more expensive than your mortgage or rent.
5. Your debt payments are just unaffordable.

There are three kinds of debt consolidation which can help you to simplify your debts – but each one if different and only suitable in certain circumstances. You can find out more if you click here.

A debt consolidation loan can address points 1, 2 and 3. You could find it simpler to consolidate all your debts into one loan, with one (cheaper) monthly payment. Just bear in mind that spreading the loan over a longer term may reduce your payments now, but could cost you more in interest overall.

If points 4 and 5 sound like your situation, debt consolidation is probably not right for you. A more suitable way to simplify your finances may be with debt management or an IVA.

A debt management plan is an informal agreement with the people you owe money – who may accept lower monthly payments and even freeze interest and charges. It’s one way of consolidating your debts into one affordable monthly payment with the help of a debt management company.

As with debt consolidation – spreading your debt repayments over a longer period may mean you pay more in interest overall (if the interest isn’t frozen) and making lower payments will be recorded on your credit file for six years.

Debt management can help people who are struggling to make their unsecured debt repayments (credit cards, personal loans, etc.). People could struggle to make those payments if the amount they owe is very high compared with what they earn, although there are all sorts of reasons why people struggle to repay their debts.

IVA (Individual Voluntary Arrangement)

An IVA is a formal and legally binding agreement between you and your unsecured lenders, which should make your monthly payments more affordable.

An IVA can make managing your debt simpler, partly because you pay an Insolvency Practitioner (IP) to deal with your lenders for you and negotiate a new agreement with them.

IVAs are also simpler as you only have to make one monthly payment. At the end of a fixed period (usually five years) any unpaid debt would be written off, assuming you’ve stuck to your side of the deal throughout.

However, an IVA is a form of insolvency and as such, would be noted on your credit file for six years – making borrowing more difficult and/or expensive. Also, on an IVA you might be asked to release equity if you own your own property, which wouldn’t happen on a debt management plan.

Simplify your debt

These debt solutions all leave you with one monthly payment to make – but each solution is different. Debt consolidation is for people who are already comfortably making their debt repayments. Debt management is for people who are struggling and can’t afford their debt repayments. An IVA is an alternative to bankruptcy and is for people with very problematic debts.

An Individual Voluntary Arrangement, which generally is shortened to IVA, is a way for people or businesses (in which case it is called a Company Volountary Arrangement) with otherwise irresolvable debt to deal with that part of their indebtedness which is in the form of unsecured loans. Typically these are credit and store card debts, personal loans and bank overdrafts. Secured debts such as mortgages and hire purchase contracts are excluded from IVAs with the exception that, in certain circumstances, some types of hire purchase agreements may be included.

IVAs were included in the Insolvency Act of 1986 as an alternative form of insolvency to bankruptcy. In Scotland the law is a little different and a very similar arrangement is called a Protected Trust Deed (PTD). The principal difference between a PTD and an IVA is that usually a PTD lasts for three years whilst an IVA lasts for five years.

There are significant advantages of an IVA over bankruptcy. Possibly the most important one is that an individual entering into an IVA is unlikely to lose their principal home. Although any equity remaining in the home at the end of the term of the IVA is likely to be used to further reduce residual debts, the home itself will not be seized. With bankruptcy it is highly likely that the bankrupt’s home will be seized and sold by the official receiver and the proceeds distributed to the various creditors.

Also with an IVA there is no future restriction on the individual becoming a company director or starting a business, whilst it is illegal for an undischarged bankrupt  to do so.

In terms of credit rating, although both bankruptcy and an IVA will impinge seriously on the debtor’s credit rating, it is likely that an IVA will be viewed by the ratings agencies as a little less negative due to the fact that an IVA implies a strong commitment to repay at least a proportion of debts, however in both cases the facts of the insolvency will remain on the debtor’s credit rating for six years.

It is only possible to implement IVA through a licensed insolvency practitioner.

Here, we will take a brief look at some of the ways an IVA could benefit you, and what some of the drawbacks might be:

Pros

• When you enter an IVA, all interest on your unsecured debts will be frozen. And because an IVA is a legally binding debt solution, your creditors can’t make changes to the terms of the agreement once it is underway.

• If, while you are in an IVA, your circumstances were to change – and it affected your ability to make your monthly payments – you and your Insolvency Practitioner (IP) might be able to arrange an ‘IVA variation’. This would basically involve a change in the way your IVA runs. And like your original IVA proposal, it would have to be accepted by voting creditors who own at least 75% of your total debt.

Cons

• In most cases, an IVA will last for a total of five years, and it will stay on your credit report for one year after completion. This can make obtaining further credit during this time harder and/or more expensive. If you decided to enter bankruptcy, on the other hand, you could be discharged after 12 months (although your credit rating would still be damaged).

• If you are a homeowner, you may be expected to release some of the equity in your property half way through the final year of the agreement. This money will be used to repay more of your debt.

Debt Consolidation

Debt consolidation often refers to a particular type of loan, designed to cover the total cost of all your other debts. This loan is then used in its entirety to pay your debts off leaving you with one simple monthly payment to handle. The benefits of a debt consolidation loan are obviously that it makes repaying your debts a much simpler process. But in addition, there is not necessarily any negative impact on your credit score, as the smaller debts are all being paid off by the new, bigger debt consolidation loan. So, provided you stay on top of your debt consolidation loan repayments, there should be no detrimental effect on your credit score.

IVA

An IVA has one thing in common with a debt consolidation loan: it results in one simply monthly payment for the debtor. However, it’s very different solution. Firstly, the IVA or Individual Voluntary Arrangement is a government introduced initiative designed as an alternative to bankruptcy. It essentially involves an agreement between a debtor and his or her creditors whereby a monthly repayment is negotiated based on what the debtor can realistically afford on a month to month basis. The payment is made each month for a set period of time, most often 5 years. This often amounts in total to significantly less than the total amount of the debts but at the end of that period, the debts are considered to be settled in full. Unlike a debt consolidation loan, an IVA can have a detrimental effect on your credit rating.

These are just two of the available debt solutions in the UK. What is hoped, however, with the recent announcement about compulsory debt management classes in schools, is that the future generations will rely less on debt solutions and more on good money management skills.