Consumer debt

Helene Mueller
eCollect support team

The term consumer debt refers to past-due amounts, lent by a creditor to a consumer, where the individual has fallen behind with his regular payments and became a debtor. Such defaults are also known as individual debts and represent a monetary sum borrowed by a second party (consumer) from a first party (lender). Individual debt is a small fraction of the whole household debt section, along with mortgage defaults, and derives from consummation or usage, rather than from investment (like business debts). Under consumer debt definition fall car loans, credit card purchases of goods or services, mortgages, payday debts, home equity debts, medical or healthcare past-due amounts and other household debt sums. A consumer debt ensues from financial inability of the consumer to recover the debt amount borrowed. The reasons can vary from insufficient monetary funds, forgotten obligations, sudden expenses and outcome, loss of income (job loss, divorce), etc.

General information about consumer debt

An individual debt appears, when an individual has borrowed a monetary sum and is not in the financial condition to continue transferring monthly payments to the creditor. In U.S. this is generalised with the term disposable income or disposable personal income. This is the amount left after debtor’s monthly income and after covering the monthly debt taxes. If a subject of debt becomes unable to pay the instalment payments, this means the disposable income rate will be negative.

DPI = Personal Income – Consumer Debt Tax Payments,

where the DPI is a positive ratio, which will mean the subject of debt will be able to cover the consumer debt expenses. But if,

DPI = Personal Income – Consumer Debt Tax Payments,

where the DPI has a negative value, the consumer will not be able to pay the consumer loan tax expenses and will fall into a debt situation.

Consumer debts are regularised by different acts and laws depending on state and country. In Canada one of the main regulators for consumer default rights is the Office of Consumer Affairs. In U.S. are valid the FDCPA- Fair Debt Collection Practices Act, the Federal Trade Commission, Bureau of Consumer Protection, Department of Consumer Affairs (for state of California only), Consumer Financial Protection Bureau, etc. In UK such acts and laws are the Financial Conduct Authority, Consumer Protection Regulations, Financial Services Authority, Office of Fair Trading and others.

Consumer debt clearing methods

If it is too late for the debtor to develop a budget plan, he can engage into different agreement and negotiation schemes with the creditor or the debt recovery agency, representing the lender. Such plans will either forgive part of debt’s monetary value or will flatten the whole debt into several monthly payments.

In the United Kingdom and Wales, the most commonly used technique is signing of an Individual Voluntary Arrangement (ext. link 4). This usually results with a positive outcome for the subject of debt, as the IVA allows the debtor to choose a different payment plan, which is more convenient and corresponds to debtor’s financial condition. Another positive feature of the IVA is that it usually stops all interest and charges, which are to be requested from the debtor in connection with his individual debt.

A debt settlement represents another clearance of an individual debt for the debtor. Generally, when a debt settlement contract is signed between the two parties, the creditor agrees to forgive part of the original debt amount and the subject of debt is obliged to pay only the rest but making one single payment. It differs from the IVA, as during the settlement plan the interest fees and additional charges are not forgiven and the debtor still has to pay these additional fees.

Debt consolidation is another form of settling an individual debt. It involves borrowing another larger loan in order to settle the old and the new debt in full. The new loan is usually a secured one, covering the old unsecured as well. Under the definition secured debt falls a borrowed amount, guaranteed by a collateral.

An individual debtor can also choose to clear his/her individual debt, using a debt management plan. Such plan can be carried out by the DCA, representing the creditor, or by a private specialised debt management plan organisation. DMPs (Debt Management Plans) are individually prepared and based on debtor’s monthly income. These plans are concentrated on providing more convenient payment alternatives for a subject of debt, which he can afford to cover each month, until the individual debt is cleared.

A bankruptcy is another consumer debt clearing method, but is usually used as last resort by a debtor, as it severely damages his credit report and credit history. Personal bankruptcy is implemented by a court order and states subject’s inability to repay a debt amount to the original creditor.

Used literature & external links