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8 scary paths that lead to damaging debt

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A spooky encounter may give you a fright on Halloween night. But a money mistake that can lead to devastating debt is far scarier than any ghouls you may run into this spooky season.

Here are some of the most frightening paths that could lead to a crushing debt burden.

1. Identity theft

Identity theft can lead to damaging debt when someone steals your personal data and uses it to take out loans in your name or open credit cards and go on a spending spree. The Bureau of Justice Statistics reported that 10 percent of people 16 or older were identity theft victims in 2016. When you’re a victim of identity theft, you’ll spend an average of four hours cleaning up the financial mess, according to the report. Additionally, you may find yourself with an average of $850 stolen. That type of loss could easily derail your financial plans.

You can prevent identity theft and the consequences by monitoring your accounts regularly and signing up for fraud alerts. You can ask any of the three credit reporting bureaus to put a fraud alert on your credit report and notify you if a potential creditor is seeking information or if there is unusual activity on your accounts. With this safeguard in place, you’ll be able to spot fraud quickly and prevent it from progressing any further.

2. Co-signing gone wrong

When you co-sign a loan, you’re essentially committing to repay the loan if the principal borrower defaults. As the loan co-signer, you’ll be responsible for making payments or possibly repaying the entire balance if the borrower is unable to make payments.

Co-signing a personal loan, mortgage or auto loan for a family member or friend can help out the borrower. But it could lead to a disastrous outcome for your own finances. Although the borrower may have the best of intentions, life could get in the way of his ability to repay the loan, leaving you on the hook. For example, he may lose his job, which prevents him from making payments.

When the borrower stops making payments on the loan, the lender will turn to you as the co-signer to pick up the tab. Obviously, this could lead to major financial consequences for you if your own budget is also tight with little extra cash flow each month. Depending on the size of the loan and how much is still owed on it, you could go deep into debt if your family member defaults. Beyond the financial affects, this uncomfortable situation is often enough to strain even the best relationships.

3. Not saving enough

Overspending and under saving is a scary combination that personal finance pros say you should avoid at all costs. At a minimum, having an emergency fund can be the best line of defense against racking up debt. You might encounter an unexpected vehicle issue, home repair, or other expense that wasn’t included in your budget plans.

When unexpected expenses pop up, you don’t want to turn toward credit cards to handle the situation. Without an emergency fund, you may have no other choice but to resort to paying with plastic with high interest rates, which can allow this debt to spiral out of control quickly. You can avoid a disastrous debt spiral by building an emergency fund with three to six months of expenses. When the next unexpected expense comes your way, you’ll be ready to face it without the help of a credit card.

4. Divorce

A divorce can lead to major financial strains. Sabrina Hamilton, creator of Finance Over Fifty, shares a few reasons why: “Between lawyers and court fees, this life transition can be very costly,” she says. “Finding low-cost legal help or creating a prenuptial agreement can keep these costs low.”

Paying alimony and perhaps having to find new living arrangements can also be costly and lead to indebtedness.

5. Medical expenses

Medical issues can easily lead to costly doctor bills and a growing debt burden, says Adem Selita, CEO and co-founder of The Debt Relief Company. “For many, an unexpected medical expense can be a double whammy,” Selita says. “First, you have to deal with the outsized cost of paying for your medical treatment. Second, it’s very likely the medical issue will impact your ability to work and earn income in the near term. So, in this scenario, your cost of living and staying healthy are rising while your income is diminishing.”

With that two-sided misfortune, you can easily accrue debt simply to stay afloat and cover the cost of your medical treatment. The only way to prepare for this is to seek robust medical insurance coverage and build a nest egg to cover any unforeseen medical issues. An health savings account can be the right place to store these savings. HSAs are tax-advantaged medical savings accounts.

6. Surprising tax bills

When tax time rolls around, you might find yourself facing an unexpectedly high bill from Uncle Sam. If you don’t have enough of your pay withheld each payday, it can be easy to not pay enough in taxes throughout the year, ultimately leading to a large outstanding tax liability.

Whether your employer didn’t take any taxes out of your paycheck or your investments performed better than expected, you could end up owing thousands of dollars to the IRS, says Deltrease Hart-Anderson, an IRS enrolled agent. “It’s always scary when you owe the IRS,” she says. “They are the most powerful debt collector in the world.”

But there is room for hope if you’re facing an unexpected tax bill. “There’s always a solution to get out of tax debt and avoid these problems in the future,” Hart-Anderson suggests says. “Working with a licensed IRS enrolled agent or a CPA that is experienced in tax issues will help you get out of tax-debt trouble and keep you out of tax-debt trouble.”

7. Financial infidelity

Financial infidelity can lead to hidden debt between spouses. If your spouse is racking up debt behind your back, it can be an unwelcome surprise.

The best way to avoid this scenario is by communicating openly with your spouse about money. Mark Struthers, a certified financial planner at Sona Wealth, recommends that you “have a financial date night with your spouse where you are open about spending and goals — go over the numbers (in a loose non-judgmental way) before the drinks and apps come.”

Getting ahead of any potential trouble is key. “It does not have to be too detailed, but if each has a general idea of what’s going on, it increases the chances of nothing bad happening,” Struthers says.

In short, a little bit of communication can go a long way.

8. Insurance gaps

Insurance gaps can also pose a serious threat to a stable financial future, says Jeff Wood, CPA and partner at Lift Financial. “Having adequate coverage, whether it is health, auto, home or life insurance is one of the best ways to avoid financial disaster.”

“Insurance is an expense that we pay for and truly hope we never have to use, but a single incident can bring financial troubles that can burden an individual or family for life.”

You likely have the basic insurance types to protect your assets, such as your home or car. But you should also make sure that you have adequate coverage for health insurance, life insurance, and disability insurance.

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Written by
Sarah Sharkey
Contributing Writer
Sarah Sharkey is a contributing writer for Bankrate. Sarah writes about a range of subjects, including banking, savings tips, homebuying, homeownership and personal finance.