Debt Settlement

Debt settlement is a process of settling a debt with a creditor for less than owed, usually in one or a few payments. This method can help people get out of debt faster, but it may have adverse affects to the borrower's credit report.

How It Works

The process of debt settlement is to settle a debt, or legally pay it off, for less than you actually owe. In many cases, this type of settlement process allows the debtor to get out of debt sooner than if he or she were to pay the minimum balance on the debt over time. It is not always allowable to settle a debt like this, since the creditor must agree to the transaction. In many cases, this will only occur if the creditor believes you will be unable to pay more of the debt or you may be likely to file bankruptcy instead.

Checkbook

Consequences

There are negative consequences to using debt settlement. Since the debtor is not paying the total amount agreed upon originally to the creditor, this reflects negatively on a credit report. Often the person will receive a mark of "legally paid for less than owed" on the credit report. This may lead to a drop in credit scores.

Benefits of Settling

There are advantages to using this method of paying off debt instead of others. Specifically, it is a good idea for those who have the ability to pay off a lump sum of debt in hand.

  • You may be able to save a substantial amount of money in the long term. While some debt settlement companies may claim to save 40 to 60 percent of your debt, most settlements are for no more than 20 percent. It is still a significant savings.
  • Settling the debt is legally binding. If the creditor agrees to a reduced payment to close the account, the creditor cannot legally pursue you for full payment.
  • Some companies will allow you to make several, larger payments over a period of three to six months to settle the debt. However, most settlements are for one lump sum payment.

Settling the debt can help you to get out of debt faster. Do plan to have the necessary lump sum payment in hand to apply toward the debt.

Settling On Your Own

Though there are companies and attorneys who can help to negotiate a debt settlement on your behalf, it is possible to get the debt settled on your own.

  • Develop a plan to settle your debt by looking at your credit report and bills. Create a plan that allows you to settle as much debt as possible.
  • Contact your creditors directly. Explain that you want to settle the debt right now, since you have the financial means to do so. Tell creditors that you are contacting all of your lenders and those that respond first will receive the settlement.
  • Discuss the reasons why the creditor should agree to settle. If, for example, you are likely to file bankruptcy due to the high debt burden you have, inform the creditor of this. However, only make claims you have the intention of keeping.
  • Gather acceptance letters in the mail documenting the creditor's acceptance of your agreement. Only agree to payment once you have an acceptance letter in hand showing the payment will settle the debt in full.

This process can be somewhat difficult especially if you have a good credit score and good repayment history. Lenders are likely to agree if they believe you do not have the ability to continue paying your bills. If, for example, you receive a tax refund, you may wish to contact your creditors and negotiate a settlement offer since you have money in hand. The creditors may know you have no other way to pay your debt and thus agree to work with you.

If you decide to hire a debt settlement company to help you with the process, know what to expect realistically. The FTC offers guidelines for those working with these companies. It is also a good idea to check with the Better Business Bureau before working with these companies.