Debt Settlement, in simple terms – is when you and your creditor agree to settle your debts that are owed to them, at a reduced balance. For example: You have $15,000 in credit card debt and they agree to take a payment of $6,000 to settle your obligation to them in full. Upon payment of the $6,000, nothing else would be owed to them.
Debt Settlement or Debt Negotiations as it is often called can be right for you if you have a financial hardship, can’t or don’t want to file for bankruptcy or can’t see how you will pay off all of your bills and still save for your future retirement, your kids education or if something catastrophic happens.
Maybe your situation doesn’t allow you to participate in a credit counseling program or that you just can’t see yourself making payment, after payment, for the next 5 to 8 years without any real benefit to you or your future.
Debt Settlement is a very effective way to get rid of your debts, but it is also one of the most aggressive. Before we look at applying the Debt Settlement Strategy, it’s important to understand the creditor’s position.
There really isn’t any creditor out there that will normally settle an obligation for less money, if there were no hardship or if all of your payments are current. It just doesn’t make sense to them. They have rules and guidelines they must follow. No one in their right mind would allow someone that was continually making all their minimum payments (which we all know the banks love) or not suffering a legitimate hardship, to pay a discounted rate of 40 – 60% to settle the obligation in full.
You also must understand that if a creditor is going to accept a settlement offer, you are usually going to have to have that money available as a lump sum. The creditor maybe interested in settling the account to clear off the bad debt but if they are going to reduce the principal balance, they will expect immediate payment in return. There is usually no incentive for them to take long-term payments and forgive 40-60% of the balance owed. If you offered to make long-term monthly payments on the settlement, then the creditor will usually say – “NO – why not just make those smaller monthly payments for now and continue to pay me each month, until you can afford to make the normal payments to us again”.
In most circumstances, the only time when you may be allowed to make payments is when you owe a lot of money to a creditor and it makes sense to break those payments down. For example: You owe $15k, they settle for $6k – they would agree to take that 6k in 6 equal payments of $1,000 for the next 6 months. Rarely will they go over a six-month period and you have to take into consideration all of the other creditors/debts that you may owe that also need to be resolved.
It has been our experience that most people do not have enough money saved up to make a creditor any type of settlement proposal. Therefore, you need to set up a budget or what we like to call a spending plan. Once set up, you can determine how much money per month you could set aside so you can make a settlement offer in the future.
Point in fact, in order to qualify for debt settlement, you must be behind/struggling to make your payments and you must be suffering from some type of hardship. You must be able to afford some type of savings plan that will get you out of debt, in the shortest amount of time.
Those are really your two options in pursuing debt settlement. 1. Have money immediately available to settle or 2. Have the ability to start saving money so you can extend a settlement offer to your creditor(s) as quickly as possible.
A good debt settlement counselor will ensure that you have a proper budget in place and that a realistic savings plan can be achieved prior to enrolling you into this type of program.
You also must understand that if you are not making your required payment(s) to your creditors, they can and will call you and send notices in the mail. Only when your debt goes to a third party for collection (usually after 180 – 210 days) does the FDCPA (Fair Debt Collection Practices Act) go into effect, which can afford you relief from phone calls and other harassing tactics used by those agencies.
A good debt settlement counselor will explain what you should be communicating to your creditors every step of the way until it is time to settle the debts or until the debts have matured to a level that makes sense to start the negotiations process. Since you are not making your required payments, your credit profile will be adversely affected. Don’t let anyone tell you otherwise. While you are not making payments and until the debts are settled, your creditors may continue to report late payments, charge-offs and collections on your credit reports. Once your debts have been settled, your credit reports may indicate that the account has been “closed/satisfied”, “settled” or “settled/closed” or “settled for less than what was owed”. No one can prevent a creditor from reporting true and accurate statements on your credit reports.
In addition to your credit report being affected, since you are not making your payments, your creditor still may elect to sue you in order to obtain a judgment against you for the debt owed. If they are successful, they may place a lien on any property you may have or they may attempt to garnish your wages or levy your bank accounts. Although statistically this is very rare and at the end of the day, the creditor is more interested in settling the account, it can happen.
Creditors are also generally required to provide a Form 1099-C in the event that they forgive a debt to a consumer that is greater than $600.00. Please understand that if you receive a Form 1099-C showing income in the form of canceled debt, this does not necessarily mean that you owe taxes on the forgiven portion of the debt. In most cases, clients can legally and ethically exclude forgiven debt from their income through the “insolvency exclusion” provided by the IRS code. This exclusion means that your liabilities exceed the fair market value of your assets, or in other words, you “owe” more than you “own”. We recommend that you consult your tax advisor regarding your particular circumstance. They will also be able to assist you on filling out Form 982 that excludes you from the particular debt.
Although you can achieve settlements with your creditors directly, here are some reasons why it makes sense to hire a debt settlement company to negotiate for you:
- You get the benefit from collective settlement and their established relationships with your creditors. Creditors are much happier to entertain bulk settlements as opposed to individual ones. This allows the creditors to clear off larger books of bad debt all at once. This saves them time and the additional money that it costs them by using alternative forms of collection.
- An experienced company will know if there are any special settlement trends that a creditor may be offering simply by their day-to-day interaction.
- Creditors hire professionals to collect on bad debts with one main goal in mind, collect as much money as possible. They employ high-pressure tactics that help them to achieve the maximum amounts possible. Using a professional that goes to work for you, affords you a more level playing field so that you can achieve the same results, but in your favor.
- The debt settlement company will handle all the negotiations and paperwork (settlement acceptance letters/agreements/offers) for you.