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Debt Settlement Programs

Debt settlement goes by many names (debt relief, debt forgiveness, debt reduction, debt adjustment, etc.) Debt settlement programs typically advertise the following features:
  • Negotiate with creditors on your behalf
  • Reduce your overall debt
  • Lower your interest rates
  • Consolidate multiple debts to one payment
  • Low monthly or zero up-front fees
  • Help rebuild credit

Naturally, these features are appealing; however, the actual process and potential results can be quite different. Here’s how debt settlement typically works:

  1. You stop making payments to your creditors.
  2. The debt settlement company collects a single monthly payment, which is deposited into an escrow-type account.
  3. Once your escrow balance is high enough, the company will attempt to settle one or more of your accounts.
  4. This process is repeated until (hopefully) each creditor accepts the terms of the settlement.

Debt settlement can be expensive and risky. Here are potential adverse consequences of debt settlement:

  • Severe damage to your credit because your creditors are not being paid. These late payments can remain in your credit file for up to seven years.
  • The settlement process can take years and could end up costing more than the original debt.
  • Settlement program fees range from 15% to 25%, meaning settling a $40,000 debt could cost $10,000 in fees.
  • There is no guarantee that creditors will accept the terms of the settlement.
  • Finance charges and late-payment fees continue to accrue and creditors can still sue you for defaulting on your loans.
  • You will owe taxes on any portion of your debt that is forgiven.

Bad actors exist in the debt settlement/relief sphere. Make sure the business you choose is legitimate, has a proven track record with your creditors, and receives verifiable and favorable reviews. Be cautious about responding to ads or clicking on websites that promise to lower your debt without consequences or costs.


Know the difference

When dealing with debt, getting the right support can be extremely helpful, but it is critical to understand the differences among the services offered.

  1. Credit (or debt) counseling services are financial education organizations that focus on helping you set up debt payment plans and organize your finances. They can (when authorized) work with your creditors to try to negotiate lower interest rates and/or payments.
  2. Debt consolidation means you are working with a lender who will require you to apply for a loan. Loan proceeds are then used to consolidate multiple debts into one loan.
  3. Debt settlement companies do not lend you money; instead, they ask you to send them money which they will use to try and negotiate reduced payoffs on your debts. They will ask you to stop making payments on your debts and send them a monthly amount instead, which could lead to damaged credit.

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