Dealing With Creditors Using The Pro-Rata Method

December 19, 2009 | Posted by Brad Chaffee

Are you sick and tired of dealing with creditors harassing you? The truth is that you know you owe the money and want to pay it, you just need a little time to get back on your feet. You are not alone.

Sometimes creditors are their worst enemy since I believe they are one of the reasons people are so quick to file bankruptcy. Creditors are bullies, and what do you do when you do not want to deal with a bully? You avoid them by filing bankruptcy or simply ignoring them.

I do not recommend either of those solutions which is why I wanted to share with you the pro-rata method. It is a formula used to help determine a fair amount to pay your creditors each month since you cannot afford to pay them the minimum.

The formula is as follows:

Total of individual debt (a)/total of all debt (b)=percentage (c) individual debt represents. (a divided by b = c)

Next multiply your *disposable income (d) multiplied by the percentage each debt represents (c), to get your new minimum payment (e). (d multiplied by c = e)

*Your disposable income is the total amount of money you have left after all necessities are paid. If you do not have any disposable income you have two choices: either down-size your lifestyle or increase your income.

Now let’s look at an example with real numbers.

Let’s say you have the following debt load (a).

Debt 1 $7,500 (current minimum $500)
Debt 2 $5,000 (current minimum $200)
Debt 3 $2,500 (current minimum $100)
Debt 4 $2,500 (current minimum $100)
Debt 5 $2,500 (current minimum $100)

Total Debt (b): $20,000

Current minimum total: $1,000
Current disposable income: $700 (d)
You are $300 short.

Formula 1 Disposable Income Percentage (a/b=c)

Debt 1 $7,500 divided by $20,000 = .375 (37.5%)
Debt 2 $5,000 divided by $20,000 = .25 (25%)
Debt 3 $2,500 divided by $20,000 = .125 (12.5%)
Debt 4 $2,500 divided by $20,000 = .125 (12.5%)
Debt 5 $2,500 divided by $20,000 = .125 (12.5%)

Formula 2 New Minimum Payment (d*c=e)

Debt 1 $700 multiplied by .375 = $262.50
Debt 2 $700 multiplied by   .25 = $175
Debt 3 $700 multiplied by  .125= $87.50
Debt 4 $700 multiplied by   .125= $87.50
Debt 5 $700 multiplied by   .125= $87.50

Now I know what you’re thinking. “But the minimum payment I can pay is not the minimum payment my creditor expects.”

That is true but you should not allow a creditor to bully you into paying more than you can really afford. This means you have some more work to do.

Now you need to send your creditor a letter expressing the fact that you are unable to meet their minimum payment requirements. The letter should also include a sample budget so that they can see you really have nothing extra to give, AND that you are paying each creditor their fair share according to your ability.

This method will give you a little more time to get on your feet, and allow for you to pay necessities first. I wonder how many creditors talk people out of their grocery money each month? Too many I am sure.

Don’t jeopardize your families security and wellness when dealing with creditors, and certainly do not let them scare you into giving up any money you would need to fund your four walls. (food, shelter, utilities, clothing)

It is also good to know that even if you receive a judgment, the judgment does not really matter until the company decides to execute on the judgment. In most cases the creditor will likely not go this route, assuming you have followed the directions above.

If the creditor does threaten to execute on the judgment, meaning they will possibly garnish your wages, you need to be clear and inform them that by forcing you to pay money you do not have—it will force you to file bankruptcy. They will get nothing. It’s the only time I approve of filing for bankruptcy as you are really left with no choice.

Good luck!

photo credit

Brad Chaffee is the Enemy of Debt, and a regular contributor here at the Self Reliance Exchange.  Learn more about Brad by reading his bio. You may also contact him here.

Categories: personal finance | Tags: dealing with creditors, pro-rata, self reliance | No Comments »