Debt Settlement

What Is Debt Settlement?

If you’re searching for ways to get out of debt, you’ve probably heard about debt settlement. TV ads will tell you that you can spend just fifty cents on the dollar and be out of debt in three years. You’ve been told that it’s easy, effective and a much better idea than credit counseling or bankruptcy.

Unfortunately, you’ve been lied to.

If you go through debt settlement, there are some things that will definitely happen and some that only might happen. Your credit will definitely be ruined. The collection calls will absolutely continue. And any debt that is forgiven in a settlement will be counted as income for your taxes. (Surprise! That’s something you don’t always hear from those smooth-talking commercials.)

You might have a very smooth debt settlement process and get out of debt at 50 cents on the dollar. Or 60 cents, or 70 cents. (And then pay taxes on the rest.) Or, depending on how many creditors you have and who they are, you might get sued. You can spend years in the court system after debt settlement, only to end up in more debt than in the beginning.

Here’s how the debt settlement process really works. You work with a “debt advisor” to determine a proper monthly payment. Of this payment, 15 to 20% will be kept by the debt settlement company and the rest will be put into a savings account. When you pay them, your money does not go to your creditors, but sits in this account accumulating. When the account has built up to about 50 % of what you owe one creditor, they will offer that creditor the opportunity to settle. If they don’t accept the offer, your settlement company will keep making offers as the account grows. If the creditor takes the offer, you start over, saving money for the second creditor.

There are several dangers to debt settlement. Usually, they will not get your interest rates lowered or fees forgiven, so your debt continues to grow substantially throughout the process. Since they hold onto your payments while they build up, your creditors get frustrated because they aren’t getting any money. Collection calls will continue and your credit score will plummet due to missed payments. Sometimes the debt settlement company won’t even contact your creditors until they are ready to settle.

You take the heat, they take 15%.

If you have multiple creditors, the problems get even more serious. Even if the first settlement offer is accepted, it only pays one creditor. Meanwhile, the others are getting more and more angry. If they get upset enough, they will sue you. That will put you in court and often ends in liquidation of your belongings, wage garnishment and more. If you have three or four creditors (or even more) it will be a long time before they see any money. That whole time they are free to harass you, submit harmful credit reports and decide when they should take legal action.

Even if debt settlement ends up working well for you, you pay your debts back at 50 or 60 cents on the dollar and don’t get sued, there are some problems. First, as we’ve said, your credit will be down the tubes. Secondly, any money over $600 that is forgiven is legally considered taxable income. You will be taxed for everything your creditors don’t make you pay back. After the years it will take you to pay back debts, you will still owe a significant amount of money to the IRS.

This can be a very dangerous process – although it has been portrayed as an easy fix by untrustworthy* companies. Of course, depending on your situation it may be the right decision for you. Every so often, our credit counselors recommend debt settlement to a few people who can really benefit from it. However, you should never hire a company to do this for you. Give us a call and get an honest answer – something you won’t always get from a debt settlement company. 800-994-3328.

*Always check a company on BBB.org before giving them any personal information.