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Help! I face major debt and can't make the bills

Erica Sandberg

June 3, 2014

QHi Erica,

I'm in major debt and can't pay all my bills each month. I'm trying to be as proactive as possible and create the least amount of credit issues. I have a 401(k) loan that I still owe a little more than $16,000 on. My monthly payments are $373 per month, which I doubt I'll be able to pay. I have about $15,000 in credit card debt and my payments run around $500 to $600 a month. I also have some medical bills that have accumulated from last year, totaling around $3,800.

My mom is advancing me some inheritance money totaling $15,000. What is the best way to apply this money? Do I keep some in savings for emergency? Do I put it all to my 401(k) loan and then consolidate my credit card debt? Or do I apply it to my credit cards, and default on my 401(k) loan and take the penalty hit at the end of the year? Or do I apply it to both?  I'm clueless and trying to dig myself out of this hole. The joys of being a single parent with no child support. — Maggie

ADear Maggie,

The debt that you are carrying is a major concern, true, but you have assets to work with. And that means you have options.

Let's take it point by point:

Credit card debt. Get rid of most of it! Even if you never made another purchase with the cards, it would take you about four-and-a-half years to delete (assuming a monthly $500 payment with an average APR of 20 percent). Worse, the accumulated finance fees would total around $6,000. My advice is to pay all but about $3,000 with the inheritance. Then send fixed payments of about $278. In 12 months you'll be in the clear. To pay the least amount of interest, send the most to the creditor with the highest rate and the minimum to the others.Ask Erica

This plan will do more than just save you money. The steady monthly payments paired with a greatly reduced debt will cause your credit rating to spike. A credit report full of positive information is important, as it will help you not just qualify for future loans and lines of credit, but appeal to landlords and employers. If you need to seek a new job or place to live, you'll be in good shape.

Medical bills. I want you to negotiate these. In a letter, ask to pay for half to settle the account in full. Explain that you will send a money order of $1,900 — the absolute maximum you can afford — to immediately end the matter. Collectors will likely agree, but if your doctor or the hospital doesn't budge, request to make small payment arrangements. They don't charge interest, so it won't hurt you financially to drag it out.

401(k) loan. If you get rid of most of your credit card debt and if you can reduce your monthly budget by about $100, you should free up just enough cash to send to your plan loan. It will be a tough year, but after your credit card debt is paid, you can relax your spending a bit.

If you still don't have enough to meet the 401(k) loan payments, don't panic. The worst that will happen is you'll owe the Internal Revenue Service. At the end of the year, you'll receive a 1099 showing how much extra you need to pay in taxes. If you're under the age of 59.5, you may be assessed a 10 percent penalty as well.

Your credit rating won't be affected if you default, however, since employers don't report to the credit bureaus. Assuming you're OK with the fee and tax liability, and genuinely cannot meet the payments, you can let this go for now. You'll need to pay it, but the IRS usually accepts installments.

Savings account. Open a money market account and drop the remaining $1,000 from your mom into it. This will be the start of your emergency fund. Everyone needs one, says Bob Goldman, a financial planner from Sausalito, California. “A single-income family should have six months' expenses, not including taxes or retirement account contributions, in cash savings.” This way you'll be protected in case you lose your job and can't secure another one quickly, or if a large, necessary bill falls into your lap.

To know what your goal should be, add up your necessary expenses for the month, then multiply the total by six. The one grand from Mom gives you a nice start on reaching this goal. After you've satisfied your creditors, apply what you had been sending to them to this fund.

Lastly, you don't specify why you're not getting child support, but if it's because you've been concentrating on these money problems, hopefully you can now redirect your energy to collection. The Child Support Enforcement Act of 1984 stipulates that district or state attorneys must help you collect what is legally due to you and your children. Log on to the national Office of Child Support Enforcement to locate assistance in your area.

Got a question for Erica? Send her an email.