Debt Settlement : How It Works
- What is Debt Settlement?
- Is Debt Settlement Worth It?
- What are the pros and cons of Debt Settlement?
- What percentage should I offer to settle debt?
What is Debt Settlement?
Debt settlement is the process whereby an agreement is reached between the creditor and the debtor, where the total debt balance owed by the debtor is reduced. This reduced debt amount is paid in a lump sum by negotiating with the creditors. Debt settlement (or ‘debt relief’ or ‘debt resolution’) is said to be successful once the creditor agrees to forgive a percentage of the total debt amount owed. Normally, only unsecured debts, which include medical bills or credit card debt, can be settled.
Is Debt Settlement Worth It?
For the debtor, debt settlement is a welcome relief as their debt is lowered, sometimes by more than 50%. The longer the debt remains unpaid, the greater is the debtor’s risk of being sued. As for the creditor, they regain trust that the debtor intends to pay back the loan and not file for bankruptcy (in which case the creditor may lose the whole debt amount owed).
Debt settlement is by far the cheapest option compared to credit counseling or making minimum monthly payments but whether this is the least expensive option for you depends on the situation a debtor is in. Generally speaking, paying off the total debt that you owe is the best option for your credit as a ‘paid in full’ credit report shows potential lenders that you have fulfilled your obligations as a debtor. Positive payment history on your account strengthens your credit score. Once you don’t pay the full amount owed and go for debt settlement options, a ‘settled’ status will remain on your credit report for 7 years from the original delinquency date of the account.
What are the pros and cons of Debt Settlement?
Pros of Debt Settlement
- Settle for less amount than you owe – A creditor could agree to forgive a percentage of the debt amount that you owe and agree to settle for a lesser debt amount by waiving interest charges.
- Payment of debt sooner – Debt settlement lets you pay all your debt at once rather than spending months or years on payment, thus your budget is not compromised.
- Avoid Collection Agency calls – A successful debt settlement ensures no calls from debt collection agencies regarding your unpaid debt any more. But the whole paperwork may take a while before the calls cease.
- Avoid filing for bankruptcy – Filing for bankruptcy may seem a good option to get away from the unpaid debt owed and to get control of the situation. But one has to bear in mind that bankruptcy will severely damage one’s credit. So you should opt for it as a last resort only and negotiate settlement of debt to keep creditors from suing you in an attempt to recover their losses.
Cons of Debt Settlement
- Unwillingness of creditors – The creditors might not be willing to negotiate with the debtor and might not accept a debt settlement offer.
- Fees charged by debt settlement companies – Debt settlement companies might charge a fee amount which is 20-25% of the final settlement amount. This may seem too much for the already burdened debtor.
- Negative impact on credit – A debt settlement with your creditor can have a counter impact on your credit and this may be escalated if the debt settlement companies encourage you to stop paying your creditors. This might further damage your credit.
- Forgiven debts may be taxable – Debt settlement may call for tax costs and the difference between what you owe and what you pay may be taxed as income.
What percentage should I offer to settle debt?
While there is no set amount for debt settlement with collection agencies or debt collection law firms, it all comes down to the amount that you owe, the creditor involved, the type of debt and your circumstances. The creditor or collection agency involved is not necessarily required to settle with you at all. Hence it is always wise to have a professional by your side throughout the settlement process.
How to negotiate debt settlement on your own?
Through a DIY (do-it-yourself) approach to debt settlement, you negotiate directly with your creditors to settle your debt for a lesser amount. This approach may be just as effective as hiring a debt settlement company and costs less and at the same time, lets you settle your debts sooner. So if you decide to settle your debts on your own, it requires some determination on your part to go through the process step-by-step. Here’s a breakdown of the steps involved that you may need to take.
- Current situation assessment – If making minimum payments is a feasible option from your side, or you have the capacity to stay current on your accounts with a hardship payment plan, that might be a better option.
- Ability to negotiate – If you are confident enough to negotiate a debt settlement on your own with your creditor, then a DIY settlement may work out for you but if your confidence is wavering, DIY debt settlement may not be the best option for you.
- Start a settlement fund – Generally speaking, creditors may require a lump sum payment amount of 20 to 50 percent of the total debt amount that you owe. It is advisable to open a new bank account for your settlement fund, thus making sure the money is not spent elsewhere. Slowly build up your fund by depositing regularly into your account to the point when you can make a decent settlement offer.
- Call your creditor and make an offer- Once you feel you have enough money at your disposal to settle a debt, arrange a call with your creditor and make an offer while also mentioning why you can afford to pay only the settlement amount you are offering. If the creditor doesn’t agree to settle, you may want to try again with the debt buyer or a debt collection agency.
- Have the settlement agreement in writing – Make sure you have an official settlement offer letter in writing that encompass all terms of the settlement. Ensure that the letter clearly states that your payment will satisfy your obligation. It may state the account will be settled or paid in full or accepted as settlement in full, or something similar. It is best to keep a copy of the letter or any payment confirmations handy in case a collection company contacts you about the debt again in the future.
- Pay the agreed-upon settlement amount – Once you have reviewed the settlement offer letter and come to an agreement, it’s time to pay the settlement amount.
What Do Debt Settlement Companies Do?
Debt relief companies charge you to negotiate with your creditors on your behalf. The goal of these companies is to make the creditors accept a debt amount less than the due amount the debtor actually owes and thus have the debt settled. This may sound great, but the reality is that debt relief companies’ tactics with lenders can reduce your credit standing. The following hard realities are to be considered about the ways they work:
A debt relief company or debt settlement company, before negotiating with your creditors, predominantly instruct you to stop making debt payments to the creditor and instead make an agreed-upon monthly payment into a savings account they set up for you, most often for a fee. After making payments into the set account for several months, the debt relief company approaches your creditors on behalf of you, essentially emphasizing the point that the creditors will be better off settling for partial repayment of your obligation than risking getting not paid at all.
The implicit threat lies in the fact that you end up with a reduced credit score and if you file for bankruptcy, lenders may be unable to collect anything you owe them. If the debt settlement company is successful in its negotiations, it usually keeps 20% to 25% of your total debt as payment. If you don’t want to hire a debt-settlement company, consider seeking the help of a lawyer or doing it yourself.
What is an Example of a Debt Settlement?
- Debt rescheduling where we work on lengthening the time of debt repayment by restructuring the terms of an existing loan.
- Debt discount offer is where you pay the remaining discounted balance through a payment plan.
Exploring Debt Settlement Options?
Talk to our debt collection Experts at Alwasl National Debt Collection Company to discuss your options for debt relief. They will evaluate your overall financial situation and make the best recommendation for your repayment options keeping your best interest in mind.