This is a great question, often discussed amongst us and our clients. First, if you are operating below break-even and in default on your loans, then credit cards should not be your first priority. Secured debt should be paid first. As frequently advised, total default tells the right story for a few reasons.

Let there be no question—if a bank sees a fistful of credit cards being serviced while their secured loans are in default they get very hostile, very quickly and rightly so. Secured debt takes priority over unsecured debt and credit card debt is “new” borrowing. Payment on unsecured loans is lower in priority. The bank has a right to object when they see this and they do; this can be a show-stopper for the workout process.

However, there is an important exception to this rule: A small amount of credit (less than a few thousand dollars a month), if used and repaid monthly, rotating the money in and out, being used for small business transactions or simply for financing your living overhead if you are not taking a check, is acceptable. You have a right to a paycheck and the bank will acknowledge this fact. You must survive. You have not yet closed your business so normal operations are acceptable. Paying down large amounts of significant credit card debt and remaining current on highly used cards does not work. This is the issue. When in default, with the bank the rules change.

Do not use your cards for any more than necessary living expenses if you have depleted all resources and have no real revenue. If this is how you have always run your business and need this flow for transactions, this is also acceptable—in low dollar amounts. However, a few cards should be in default and not paid down. Remember, all of your credit and payment records are available to the bank so there is no hiding out on this issue.

Further, if you are going into default and workout, looking for debt forgiveness, using your cards at this point is abusive to the system and tantamount to larceny, as you know you will not be repaying that debt and are using the cards anyway.

Default, default, default, that is the rule. If you are in a workout there is no reason, nor advantage, to paying off unsecured debt unless you are using the card for basic requirements or small business transactions. All your other cards should reflect your financial condition and be in default out of respect to your higher priority—the secured party banks—and the general condition of your finances. Do not pay them off out of a sense of obligation or to have them available should you need them; it is the banks money once you go into default on your secured loans.