Everything You Need To Know About Debt Settlement

Debt settlement means that a creditor has agreed to accept less than the amount you owe as full payment. Once he accepts this agreement, the creditor can no longer sue you for the money and you no longer have to worry about being sued for this particular debt.

It seems like a good deal, but debt settlement can be risky:

Debt settlement can finish your credit.

Reaching an agreement can take a long time – often between two and four years.

It can be expensive.

Even if you succeed in settling your debts, it can take years and you may find that you OWE taxes on the canceled debts. And if you use a debt settlement company, you pay a fee. This is a last resort.

How debt settlement works

Debt settlement only comes into play if you have a lot of after or ignored payments and possibly collection accounts. A creditor or collector will not accept less than what you owe if there is reason to believe that you could pay the full amount that you originally agreed to.

Your credit scores will be shredded, you will feel hopelessly held back and your income will not be enough to keep up with your debts.

Debt settlement companies negotiate with creditors to reduce their debts, mainly with regard to unsecured debts such as credit cards. This is not an Option for certain types of debt, such as a house that can be foreclosed on or a car that can be repossessed. Companies usually don’t repay federal student loans, but they may be able to repay their student loans on their own. If you’re struggling with your student loans, an income-based repayment plan could help.

The settlement provides work only if it seems that you are not paying at all, so you stop making payments on your debts. Instead, you open a savings account and deposit a monthly payment into it. Once the settlement company believes that the account is sufficient for a lump sum offer, it negotiates on your behalf with the creditor to accept a lower amount.

Debt settlement risks

Some debt settlement companies say that they can reduce your debt by 50% and free you from debt within 36 months.

However, the process is not as clear or as simple as it seems. Again, we believe that debt settlement should be the last resort.

Here are the risks associated with debt settlement:

Your balance will take a hit: if you are not yet in default on your accounts, you will be as soon as you redirect the debt payments to the settlement account. Delinquent accounts and debts debited by lenders will remain on your credit reports for seven years.

Penalties and interest continue to accrue: you will probably also be charged after fees and penalties. The interest will continue to increase on your credit.

There is no guarantee of success: the two largest debt settlement companies are National Debt Relief and Freedom Debt Relief. Freedom Debt, for example, claims to have repaid more than $10 billion in debt for more than 650,000 customers since 2002. However, there is no guarantee that the debt settlement company will be able to repay your debt for much less, since some creditors do not negotiate with you.

According to a study by the Center for Responsible Lending, a nonprofit research and policy group, most consumers would have to pay at least four accounts to get a net benefit. In addition, debt amounts can increase as fees accumulate and aggressive collection attempts can continue throughout the negotiation process.

You have to pay a fee when a debt is paid: according to the law, these companies cannot charge you an upfront fee. Most of them calculate a percentage of each debt you pay based on the balance of that debt when you included it in the program. Some calculate a percentage of the debt that is eliminated by the settlement.

Suppose you owe $10,000 and the agency negotiates a $6,000 settlement. The agency charges 25%.

If the agency charges a percentage of the debt paid, you pay the creditor his $6,000 and the Agency $2,500 in fees (25% of the recorded balance of $10,000). Total: $8,500.

If the agency charges a percentage of the eliminated debt, you pay $6,000 to the creditor and $1,000 to the agency in fees (25% of the eliminated debt of $4,000). Total: $7,000.

You pay additional fees: In addition to the fees paid when paying a debt, customers may incur others, such as installation fees and monthly fees for maintaining the dedicated account created as part of the program.

Canceled debts may be taxable: you should also know that the Internal Revenue Service generally considers canceled debts as income. You may want to consult a tax professional about the additional tax obligations that you will assume when you repay your debts.

If you decide to use the services of a debt settlement professional, be careful. It’s easy to let your guard down when you feel desperate and see promises of debt relief. The National Center for Consumer Rights said that debt settlement companies “are almost never worthwhile and can lead consumers into even deeper financial difficulties.”

The consumer financial protection bureau takes a slightly softer view, but strongly warns consumers, saying that dealing with such companies is risky and that other options must first be considered. Since 2014, there have been more than 330 complaints against debt settlement companies to the CFPB. The most common assertions included bluff and excessive fees.