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Debt Management Tips for Seniors

No one wants to spend his or her golden years struggling with credit-card debt. But, sadly, an increasing number of seniors are doing exactly that. For people living on fixed incomes, escalating debt can lead to financial ruin.

Many of the debt-management options available to younger people — like getting a second job to pay off the debt faster — don't make sense for senior citizens. But that doesn't mean there's nothing they can do about it. Here are some overlooked debt-management strategies that can help retirees dig themselves out of the hole.

1. Reverse Mortgages

People struggling with high-interest credit-card debt are typically advised to tap the equity in their homes. But that's a bad idea for retirees. "I tend to cringe when I see seniors refinancing their houses at a late age," says Howard Dvorkin, president and founder of Consolidated Credit Counseling Services in Fort Lauderdale, Fla. "I believe a house is something you retire with. You don't want to be 75 and still making mortgage payments."

For some, a better option is a reverse mortgage. With reverse mortgages, home equity is converted into cash, which is received on a monthly basis, in a one-time lump-sum payment or as a credit line to use whenever needed. The appeal is that, unlike any other type of home-equity loan or refinancing maneuver, the money received through a reverse mortgage doesn't need to be paid back — as long as the owner continues to live in the house. For many cash-strapped seniors, this creates a source of income that could last the rest of their lives. (The amount of the loan depends on the owner's age and the value of the home.) Keep in mind, only those who are age 62 or older and who have fully paid off their mortgage are eligible for this type of transaction.

"It can really dramatically improve the quality of life for many homeowners," says Bronwyn Belling, a reverse-mortgage specialist at AARP.

There are potential drawbacks, of course. First, the owner must be comfortable with the idea that they won't be leaving the house to the kids — it will be left to the bank instead. Since the homeowner is drawing from the home's equity and not paying it back, his heirs will have to settle the loan after he passes away, either by selling the house or by coming up with the money elsewhere, should they want to keep it.

Also, because the lender isn't getting repaid right away, the company will want to make sure the property is being properly cared for. "There's an annual certification that the homeowner is in the house, and the lenders pay companies to notify them if the taxes and insurance aren't paid," Belling says.

Finally, about 6% of the home's equity will go to cover the loan's costs (although the homeowner probably won't feel it, since those costs are deducted from the home's equity).

2. Tapping Life Insurance

For those lucky enough to have a permanent life-insurance policy with cash value, one option is to consider taking a cash-surrender loan, which is basically a loan that doesn't have to be paid back. Here's how it works. The cash value of the policy is essentially a dollar amount the owner would be paid at any given time should he or she cancel the policy. It's also an investment account that can be borrowed against. The longer the policy has been in place, the more cash value it's built up. The owner can take up to 96% of it out through a so-called cash-surrender loan. The insurance company will recoup the loan balance, plus interest, after the owner dies.

For those who are cash-strapped, tapping their policies while they're alive can be more valuable than in death. The insurance policy isn't going to do anything except go to your offspring or other beneficiaries.

3. Bankruptcy

Filing bankruptcy is never an easy choice, and it can be particularly tough for seniors. For starters, there's the psychological component. "I've had a lot of clients tell me that they're...going through great pain and suffering, because they feel morally obligated to pay their bills back," says Larry Feinstein, chair of the American Bar Association's bankruptcy committee and a principal at law firm Vortman & Feinstein. "They have no money, and just servicing their debt exceeds their fixed income." At the same time, they're reluctant to declare bankruptcy.

Another concern: Bankruptcy doesn't always solve the problem. "For older people, if they're on a fixed income and have medical bills that will keep accruing in the future, the debt will pile up again," says Wendelin Lipp, president of the Bankruptcy Bar Association in Maryland. "Then, they're put in this position where they get rid of the credit-card debt, but they have no money and no credit cards to live on."

Before considering bankruptcy, seniors should contact a credit-counseling agency to discuss options with a debt specialist. Keep in mind that a six-month credit counseling program is required in order to file bankruptcy. For those with multiple credit cards, for example, a debt counselor might recommend a debt-management program where the agency consolidates all bills into a single monthly payment, which is then disbursed to creditors. At the same time, it negotiates lower interest rates on the accounts, which lowers overall monthly payments.

But keep in mind that the credit-card companies pay the agencies a share of each payment collected through consolidation programs, so there's often a disincentive for credit counselors to suggest bankruptcy or any of the other options discussed here, even when it's a reasonable alternative. One way to minimize this risk is to look for an agency that offers consumer education and counseling outside of debt-management programs. For a list of local agencies, contact the National Foundation for Credit Counseling.

4. Leave It Behind

What about simply ignoring the debt? Believe it or not, it can be worth considering. "I was talking to a bankruptcy attorney just today," says Steve Rhode, founder and former president of credit-counseling agency MyVesta, who now runs his own money coaching practice, "and he told me he had advised a client that the best thing for them to do was just let the creditors sue them."

Sue them? Sounds terrifying, right? It's actually not that bad. The worst thing creditors can do in these situations is to put a lien on the property, which will be sold to service the debts after the debtor dies. That's it. "You're not going to get kicked out of your house," says Rhode. And what if the debtor doesn't own a house or any other property to be sold after their passing? "You're done," he says. The debt is simply written off — it's not passed along to other family members.

For many seniors, that would be the most logical solution, according to Rhode, although it can take a psychological toll. "For their own self-esteem they feel they need to take care of the situation. You can tell them not to pay their debt, but it's like advising them against everything they've always believed in." But if the choice is between filing bankruptcy and losing a home, or staying put and ignoring the debt, then the latter sounds like a better solution.

Retirement income (pension, Social Security, IRA withdrawals) is also exempt from creditors, says Eileen Muhlig, director of education at Consumer Credit Counseling Services of Central New York. "Creditors can be as nasty as they want, but they cannot access retirement funds," she says. It's also important that seniors know their rights under the Fair Debt Collection Act, which is detailed at the Federal Trade Commission's (FTC) website. For example, it's illegal for collectors call before 9 a.m. or after 9 p.m. Violations can be reported to the FTC.

5. Tapping Savings

Most seniors with debt problems have little in the way of savings. In fact, a report by the Kaiser Family Foundation released in 2005 found that 30% of Medicare beneficiaries (people 65 and over) have between $12,900 and $14,355 in "countable assets," which include the value of their pensions, IRAs and cash savings. That said, for those who do have money stashed away somewhere, it's not advisable to use the funds to pay off credit-card debts.

Sure, it sounds like a good idea to eliminate 20%-interest debt with money that earns just 4% or so a year. And it may seem especially compelling if the creditors are calling. But think of it this way, says Rhode: "When you're retired, you're crossing the Sahara Desert and you've got a couple of jugs of water on the back of your camel. That's all you've got — you can't replenish it." So keep the little you have and consider one of the previously suggested options instead.

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