Pros and Cons of Debt Settlement
Let’s face it: borrowing money doesn’t always get us the result we hoped. Everyone thinks they’ll be able to pay in full – someday. But life happens, and when circumstances change, sometimes it becomes necessary to settle the debt instead. When you can’t pay down your debts, debt settlement does have some potential upsides. Just be sure to do your homework first so you know how it will impact your finances in the long run.
Debt settlement refers to a negotiation between the borrower and lender. It requires you to pay your creditor a lump sum in exchange for some amount of your debt being forgiven. When it works in your favor, the creditor agrees to forgive a large part of the debt, although results can vary widely. According to Investopedia, debt settlement offers are typically somewhere between 10% and 50% of what you owe.
Although you shouldn’t take on a loan with the intention of settling it prematurely, debt settlement is often cheaper than credit counseling or making all of your minimum monthly payments. This process allows many consumers to see savings of 30 percent on the original debt, including fees, according to the American Fair Credit Council (AFCC). But debt settlement firms earn money by charging you a fee, and there are several considerations to help you decide whether this option is the best choice for you.
Potential Pros of Debt Settlement
An unsecured debt is one that isn’t protected by a guarantor such as a co-signer on a lease who can cover your obligation to pay if you can’t. Some debts are collateralized by a lien on assets belonging to the borrower. If this is the case, those assets could be used to settle the debt in a bankruptcy or other situation where the borrower fails to repay the loan.
So what happens when you can’t repay the loan and there aren’t any other clear options? In some cases, you can renegotiate the terms or simply ask for more time. These days, however, many consumers are finding that extra time doesn’t mean they can pay off old credit card bills, medical bills, or student loans. National credit card debt hit $1 trillion for the first time in 2018.
If your level of debt becomes overwhelming and you can’t find another way out, you can ask a debt settlement company to negotiate with your creditor to reduce the amount you owe. First, you must agree to the terms of the settlement. Then you pay a fee and the first payment towards the settlement.
Here are some reasons the AFCC gives for letting them help you settle your debts:
- Settling saves consumers $2.64 for every $1 in fees paid.
- Debt relief happens more quickly than other debt relief options.
- Clients have the right to reject or withdraw from their engagement with the AFCC.
- Account settlements can occur within 4-6 months of starting a debt settlement program.
Potential Cons of Debt Settlement
Being in charge of your personal finance will always ensure the best outcome for you. When you take on loans you can afford to pay back over time, you maintain more control than with a scenario like debt settlement, in which the company is in charge of repayment conditions. If you decide to opt in, you will be doing so on their terms, so it’s important to consider whether those terms are favorable to you.
Although some of your debt is forgiven, you’ll still need to come up with that lump sum, in addition to any fees and penalties, which might put a temporary strain on your finances. You may also owe more in taxes than usual since forgiven debt is considered taxable income by the IRS. And doing so may cause your credit score to take a dive, as settling indicates you may not be able to pay off future debts.
There are other potential risks when you decide not to pay your debts in full. One of them is the risk of being sued by the person or organization that lent you the money. This risk grows the longer your debt is unpaid. Furthermore, there is no guarantee that your offer to settle will work. A creditor doesn’t have to reduce your debt simply because it would be convenient for you.
If you do decide to settle:
- Negotiate a debt settlement plan that favors you.
- Discuss your options with a manager in the debt settlement department.
- Consider offering 30% of your outstanding balance, although you might end up having to pay a higher percentage.
- End your minimum monthly payments on your debt to avoid extra late fees and interest.
Americans need to face their debts one way or another. If you’re looking for ways to stay out of the red, prepaid phone products, prepaid debit cards, and electronic bill payment at your local Currency Exchange can all help you avoid debt and maintain control of your financial obligations.
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