What Is the Difference Between Forgiveness, Forbearance, and Deferment When It Comes to Debt?
Being in debt can be an overwhelming experience. For many, paying the debt off is a long, incremental process, especially if late fees and interest charges accrue each month and extend the life of the debt. In the meantime, debt collectors may constantly call about the money you owe.
Knowing your consumer rights can help you fight back against aggressive debt collectors and put an end to the harassment. It is also essential to understand your debt-relief options, such as debt forgiveness, forbearance, and deferment, so you can better negotiate with creditors and collectors to get back on track and eliminate your debt.
Debt forgiveness means some or all of your debt is forgiven by the creditor, meaning you won’t have to pay it off. Though the amount is canceled, in many cases, debt forgiveness comes at a cost. Here’s a closer look at the types of debt that may be forgiven and the pitfalls you should look out for.
Student Loan Forgiveness
There are many student loan debt forgiveness programs available. Most involve working in certain career fields related to your debt for a set period of time, such as nursing or teaching. A student loan forgiveness program where you work off all or a portion of your loan can be a worthwhile option. But watch out for your tax liability — some of the debt relief provided may be reported as income.
Credit Card Debt Forgiveness
Credit card debt forgiveness works differently than student loan forgiveness. If your credit card provider suspects that you’re going to file for bankruptcy and walk away from your debt, they may be willing to forgive your balance and settle for less as part of a debt settlement. This helps them avoid a larger loss if you default entirely.
You may be able to get out of your credit card debt through a negotiated settlement or partial forgiveness program, but the process is long and will damage your credit score. To qualify for a credit card debt settlement, you’ll need to be delinquent on your credit card bills for six months or more. The delinquency and settlement will negatively affect your credit, dropping your FICO score, and showing on your credit report for seven years.
Mortgage Debt Forgiveness
Of all the debt forgiveness options, mortgage forgiveness is one of the riskiest. It could lead to the loss of your home through a short sale or deed in lieu of foreclosure (where you return the home to the lender).
There may be tax implications when you write off a mortgage, since the Mortgage Forgiveness Debt Relief Act of 2007 expired in 2017. Under the Act, homeowners whose mortgage debt was forgiven were able to exclude the income from the discharge on their taxes. If you’re having trouble paying your mortgage, you should consider refinancing your loan, selling the house, or renting it out to cover the cost of the mortgage — are better options than mortgage debt forgiveness.
Tax Debt Forgiveness
Unless you are financially insolvent, getting your tax debt forgiven is difficult. The IRS may garnish your wages, freeze your bank account(s), hang on to any refunds, seize your property, and even revoke your U.S. passport. This can make it difficult to successfully negotiate outright forgiveness of tax debt, although you may be able to request a payment plan to mitigate a large debt over time.
Some people lose their job or become ill and unable to work. They may need some time to find new employment or to get better before they go back to work. If you need some time to get your finances in order and get back on track, forbearance may be an option.
Forbearance allows you to postpone your payments for a temporary period. Forbearance could keep you out of foreclosure by delaying mortgage payments, or it could stave off late payment penalties for other types of debt. You’re still responsible for the debt, but at least you buy some time to catch up on your payments. Many lenders are willing to negotiate a forbearance with a consumer because their alternative may be to write off the payment entirely at a loss.
To negotiate a forbearance, you’ll need to prove you have a valid reason, such as a serious illness or a layoff from work. The decision will depend on how confident the lender is about your ability to repay your loan. If you have a good payment history and a steady employment history, you have a good chance of receiving the relief. It may be necessary to consult a debt collection attorney who can help you with negotiations and present your case to improve the chances of getting a forbearance agreement.
Terms of Forbearance
Depending on the level of your financial hardship, there are a few ways a forbearance program may play out:
- The lender will approve a moratorium — a freeze on the full amount of the monthly payment due for the negotiated period of time;
- The lender may temporarily discount the loan’s interest rate, which will reduce the monthly payment due;
- The borrower will be required to only pay the interest portion each month;
- The borrower will be allowed to pay a part of the interest, leading to an accumulation of the unpaid interest for repayment later, known as negative amortization.
Deferring your debt pushes back the interest or principal balance for a specified amount of time, to be paid at a later date. Debt deferment may give you more time to sort out your finances before you have to pay your debt, but interest may still continue to accrue while your debt is deferred. Here’s a closer look at some debt deferment scenarios:
- Deferment period for student loans: The most common type of deferment, the lender pushes back payments for months or years, until after the student graduates, so they have time to find work and afford the repayment. Depending on the type of student loan, interest may or may not accrue while you’re still in school.
- Deferment period for mortgages: Mortgage deferments are short and usually happen at the beginning of a new home loan. For example, a borrower who closes on a mortgage loan in January may have their mortgage payments deferred until March.
- Deferment period on callable securities: In a callable security, such as a bond, the issuer may have a clause where they can buy the investment back at a preset price before it matures. The entity that issued the security cannot redeem the investment during the deferment period, which is usually 10 years.
- Deferment period on insurance: Some types of insurance, such as a life insurance policy, have a deferment period clause. The deferment gives the policyholder a grace period before they have to start paying premiums.
What Is the Difference Between Forbearance and Deferment?
Forbearance and deferment can be confusing since they both delay or push back a payment agreement. Here are are the differences and similarities between the two:
Similarities between forbearance and deferment:
- Both postpone loan payments;
- Neither one impacts your credit score if you follow the terms;
- Both are applicable to federal loans.
Differences between forbearance and deferment:
- Forbearance on federal loans may accrue interest, costing you more in the long term;
- The amount not paid during the mortgage forbearance period is due in a lump sum at the end of the grace period, compared to a deferment where it is added back to the total balance due;
- Deferment pushes back your student loan payments due while you’re in school;
- Forbearance comes with a shorter relief period of 12 months or less.
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