Debt Settlement, What is it and What's The Catch?

Debt Settlement is the negotiation and reduction on the amount you repay back to a creditor you have an outstanding balance with. Debt settlement companies can settle most unsecured debt, the more common types are credit cards, medical bills, utility bills.

Done correctly, settling your debt can be a fast aggressive approach to debt freedom. Average settlement offers are 50% of the balance you owe: lets say you have an account you have a balance of $10,000 you only repay back $5,000 and you save the other half, technically. With expert negotiations I've seen offers as low as 25% that you repay back from the current balance. On the other hand, I have also seen them as high as 80%, but it depends on various factors and I will get to them shortly.

In order for settlement to work your accounts have to be in a charge off status and be with a third-party collection agency. The original creditor has no incentive to negotiate on what you owe them, therefore unwilling to make any reductions on the actual amount you owe.

After several months of non-payment and failed attempts at collections, average of 90-180 days, they will "charge-off" the debt and sell it to a debt purchaser i.e. collection agency, or sometimes a lawfirm, depending on the institutions' policy.

Because these collection agencies purchased the unpaid debt from the creditor for cents ( 1-12 cents) on the dollar and charge a commission from what they are able to collect, they are more willing to negotiate on the balance owed. This would be considered the best time to negotiate a settlement offer. This, also, will be the time when you will begin to receive a heightened number of collection calls. Additionally, the collection agent will strive to collect the highest possible amount, if not the full amount.

If the collection agency is then unable to collect the funds the debt may then be turned over to a lawfirm to continue the attempts. At this point, there is an impending threat that they will file a lawsuit if no arrangements have been made prior. The possibility to settle the account is still alive, if you can borrow or scrape the necessary funds to take care of the debt once and for all in a lump sum. If working out a settlement is still not an option they may be willing to workout a payment plan, but this route will have you repaying back the full amount.

At this point, if you have not made any arrangements with the lawfirm, they can proceed to file suit.  If this happens, you will receive a summons with a court date, failure to file a response or appear in court usually results in having a judgment placed against you, and they can procede with filing for the following:

-Wage Garnishment

-Bank Levy

-Property Lien

Whether you decide to try and negotiate your own settlement or hire a company to do it on your behalf, here are some expectations and tips for both

Do it Yourself

• Spend time on the phone and speaking directly with collection agents
• Attention to detail, specially paperwork. Keep detailed notes and accurate records of each conversation including name of the agents, telephone numbers and subject of discussion
• Request any offers made or agreed to in writing, called the Settlement Letter. Once you receive it make sure the dates and amounts are what you agreed to
• When making the payment be detailed: write in the account number and "Paid In Full", and send a copy of the settlement letter. Also keep the bank statement where the funds were withdrawn as proof of payment

Hiring a Company

• They have a large client base giving them more leverage when negotiating and their negotiators usually have a direct point of contact for a creditor
• A Breakdown of your budget is based on your financial situation
• a Power of Attorney will need to be in place, allowing them to speak on your behalf

Should you hire the services of a company, I suggest you do the research and ask the following questions.

• What is the fee for the services?
  
• How is the fee determined?
• What is the payment structure for the fee and does it include the portion of my savings?
• What do the services include?
  
• What are the clients/companies responsibilities?
• What is the estimated debt free time-frame?
• What happens if a creditor is unwilling to negotiate with the company?
• What is the cancellation policy?
  

Once you sign on with a company, it is imperative that you Read, Review, and Understand the Service Agreement or Contract with the company reading all the disclosures and disclaimers.

Although the prospect of saving a lot of money in the long-term and becoming debt free sooner is the enticement, there are also adverse affects and downsides to this process.

Effects on Credit Rating

Because your accounts need to be delinquent in order to negotiate a settlement, your credit will, no doubt, be affected as creditors and collection agencies report to your credit bureaus. This may hinder any future requests for lines of credits, loans, even employment.

Collection Calls

One of the most annoying aspects of going this route is expecting and receiving collection calls. Some agents are persistent in their attempts to collect, to the extent of calling you multiple times in a day, calling friends and family, or workplace.

The Federal Trade Commission regulates collection agencies and enforce that they adhere to the Fair Debt Collection Practices Act. It is important to keep a log of collection calls and detailed records, according to the FTC you have the right to sue a collection agency if they have violated the law. You may also file a formal complaint to the FTC.

Threat of Lawsuit

After your account is seriously delinquent, a lawfirm could potentially file suit, making it more difficult to settle the account and leaving your options very limited.

Tax Consequences

Creditors are required to send you a 1099-C form to report a loss and where the forgiven amount was over $600. The forgiven amount may then be considered taxable income, when filing your taxes, seek a tax adviser for guidance.

You know your finances better than anyone, and only you can determine if settling your debt is the path you want to take.

From professional experience, the success rate is higher when the customer knows what to expect during the process. It will call for self-restraint, adherence to a budget, and aggressive savings. Perhaps, implementations to new saving strategies, borrowing from retirement accounts or friends and family can all be options available to tackle your debt.

Debt Settlement should also be seen as an alternative to Bankruptcy, where it can take 7-10 years to remove from your credit and have long-term negative effects.

The choice on how to deal with the debt will ultimately be yours to make, and anything to do with your finance will always require due diligence, informed, and educated research on your part for all options. Go into your resolution of debt-free living determined and patient to find the quality of life you desire. Best of luck to you on your journey!