Debt crash diet: Do you have the discipline for an IVA?

By Marianne Curphey

If you're on the brink of bankruptcy, an individual voluntary agreement (IVA) can keep you from tumbling over the edge. Yet signing up for an IVA is like going on a strict financial diet -- you have to give up all your credit cards and not open any new ones.

Before diving into an IVA, make sure it's right for you -- and that you have the discipline to carry it out.

What is an IVA?
An IVA is a legally binding arrangement that serves as an alternative to bankruptcy for those at least £15,000 in debt. It involves paying a certain amount off your debts over a set period. Generally, the amount you agree to repay will be less than you owe. When the period ends, any unpaid debts are written off. An IVA programme can take up to five years of monthly instalments to complete. Or, to speed things up, you may pay off your debt in a lump sum. IVA

An IVA has to be set up by an Insolvency Practitioner (IP). Once an IP has agreed to make an IVA proposal for you, the IP can apply to the county court for an "interim order." This stops your creditors from filing a bankruptcy petition against you. Then, the IP will propose the IVA to your creditors. If 75% of them accept the agreement, the IVA becomes legally binding.

Whatever the arrangement, you will have to give up many of the habits that got you into debt in the first place -- most importantly, you'll have to commit to giving up all personal credit cards and store cards for the whole term, or your IVA will fail. You will be able to continue running a personal bank account, although you may not be able to use the overdraft facilities.

Although many might find these rules challenging, foregoing credit cards is not only a necessary sacrifice, but a logical move, says Paul Crayston, spokesman for the debt advice hotline National Debtline.

"As you are writing off a fairly large chunk of debt, your credit rating is going to be impaired so there is no point in applying for a credit card anyway," Crayston says.

How will an IVA affect my credit?
An IVA can be an effective way of clearing debts and starting afresh, but it will affect your credit rating -- and that can affect your ability to apply for a mortgage and even your ability to get a job.

"It takes a while after an IVA to rebuild your credit rating," Crayston says.  "The information stays on your file for six years, after which it will not be visible to a lender."

Although repaying your debt (and simple moves like registering to vote and having a landline number) can improve your credit during that six-year period, an IVA can still be a "deal-breaker" for many lenders, Crayston says.

Is an IVA a good move?
Although an IVA can bruise your credit, it's often a better alternative to bankruptcy, especially for those who have valuable assets. If a court declares you bankrupt, you will be required to sell certain assets to repay a portion of your debts -- including your home.

Yet, if you go the IVA route, according to National Debtline, your IP can apply for what's called an "equity clause." That will protect your home, but requires you to apply for a secured loan or re-mortgage to pay back some of the debt. If that's not possible, you may still be faced with the possibility of selling your home.

Considering the gravity of an IVA, get professional advice before entering into one. And be sure you can follow all the rules and live without credit cards. Although an IVA might look bad on your credit file, a failed IVA looks worse. National Debtline provides a fact sheet with some important points to consider.

According to the fact sheet, an IVA might work for you if:

  • You are able to pay back your creditors in instalments or can pay a lump sum towards your debt.
  • You can pay at least 20% of your debts.
  • You have at least £15,000 in debt owed to two or more different creditors.
  • You are trying to avoid bankruptcy, as it will affect your job.

Keep in mind that the IVA process can be expensive. On average, fees for setting up an IVA come to around £4,000, according to National Debtline. This cost is generally rolled into your debt repayments.

Case study: An IVA helped me start afresh and set up my own business
Deborah Taylor, 49, used the IVA process to wipe out £100,000 in debt. She opted for the lump sum route, repaying her creditors in one payment.

"Once the IVA was agreed, I sold my house and cashed in my endowment policy," Taylor says. "The IVA was hard, but it meant that I had cleared my debt and I could start again afresh."

Taylor's IVA term officially comes to an end this month (May 2012), and she's been working to improve her credit rating. She uses her personal bank account to pay bills and relies on her debit card instead of using credit.

"I had three jobs and worked 80 hours a week and just live on what I earn, as I don't have a personal credit card and I have an overdraft of just £10," she says. "... I know most people use their credit cards heavily but I have had to be disciplined and only spend what I have.

Yet Taylor is still feeling the effects of her debt.

"I recently tried to change broadband providers and buy a new computer and I was turned down for both because my credit rating was not good enough," she says.

Still, a black mark on her credit hasn't kept her from moving on. She was able to get a business credit card (which wasn't affected by her IVA) and used it to start Book-Launch Your Business, a company that helps people promote their new businesses by writing books. She also runs a coaching business called From Stuck to Go, which offers courses aimed at making major life changes -- including financial ones.

See related: Debt payoff strategy:selling your stuff, Debt relief: 3 alternatives to bankruptcy

Published: 10 May 2012