A debt settlement company is a business designed to help you negotiate to pay less to your creditors than you actual currently owe. The company will calculate your payments based upon the debts you owe and its fees for providing the service to you. As you pay the company each month, a portion of what you pay, less its fees, will be placed into an escrow account. Once there is enough money in the escrow account to negotiate with a creditor, they will contact the creditor to negotiate a settlement balance. In most situations, a debt settlement company will tell you to stop making payments on the debts you wish for them to negotiate. See our blog post titled “Which is Better, Debt Settle or Bankruptcy” written by my law partner, Brad Botes, for an excellent example of how the debt settlement process works.
Cons of Using a Debt Settlement Company
- Interest, late fees and penalties will still be assessed by the creditor on your account(s) while the negotiation process is taking place.
- There is no guarantee that the debt settlement company will be able to settle the debt on your behalf. Remember, the debt settlement company is a third party so it does not have any authority to force your creditors to accept the settlement offer.
- 1099-C: When the creditor agrees to accept less than the amount you owe to them, they may and will likely send you a 1099-C for the amount you are no longer required to pay so that you can report that amount as income on that year’s tax return.
- The debt settlement companies can charge a large monthly fee to provide its services to you.
- During negotiations, it does not stop the creditor from calling you and collecting on the debt. It also does not stop any legal collections processes (i.e., lawsuits filed against you to collect the debt). Judgment liens and garnishments are a possibility.
- This option will not save your credit.
- Creditors may not accept the low offer or deal with the debt settlement company.
- Debt settlement companies charge fees for negotiating your debts but negotiating your debts is something that you could do on your own.
Pros of Using a Debt Settlement Company
- The debt settlement company might be able to get you out of your existing debt for far less than what you owe currently.
- You have a third party helping to negotiate debts for you instead of having to do it yourself. Negotiation with creditors can be stressful and having a third party do it for you can be extremely beneficial.
- Repay your debts in less time: By negotiating to pay the creditors a much lower amount than you actually owe, you can usually get out from under those debts within two to four years.
- Avoid bankruptcy: This is probably the number one reason people choose a debt settlement company. The thought of filing bankruptcy has a negative connotation to most individuals that have always paid their debts on time.
Reasons people choose bankruptcy instead of hiring a debt settlement company
- Bankruptcy protects you from your creditors. After filing bankruptcy, you do not have to worry about the creditors you owe calling you, suing you or garnishing your wages.
- Bankruptcy allows you to avoid the tax consequences from settling debts (1099-C) by proving to the IRS that you were insolvent by filing form 982 with your tax return for the year your received the 1099-C.
- Consumer bankruptcy takes negotiation out of the process and you are allowed to propose a chapter 13 plan to repay the debts on your terms according to bankruptcy laws or the debts may be completely wiped away without you having to pay anything toward them.
- You get a fresh start on your credit. For each debt discharged in bankruptcy, your credit report should show a $0 balance on your credit report(s) with a notation that the debt was discharge in your bankruptcy.
At Bond & Botes, we offer a free consultation to discuss your financial concerns. At this free consultation, there is no obligation for you to choose bankruptcy. The choice is 100% yours to make. If you are contemplating using a debt settlement company, contact one of our offices today to discuss all of your options with an experienced attorney
Mary Pool is a shareholder of the Bond & Botes Law Offices in Montgomery and Opelika, Alabama. She holds a Bachelor of Science from Auburn University at Montgomery, and a Juris Doctorate from Faulkner University’s Jones School of Law. She has represented thousands of clients over her more than 11 years working in the bankruptcy field. Read her full bio here.