What Exactly Is Debt Settlement and How Does It Work?

Author: Better Path Financial | Categories: Credit Card Debt , Credit Counseling , Debt Consolidation , Debt Help , Debt Settlement , Financial Help , Financial Service Consultants , Home Equity Line Of Credit , Personal Finance , Underwater in Debt

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You have more bills than you can pay. You do your best to pay something toward them monthly but you simply cannot meet all your obligations. Month after month interest piles on top of what you already owe, pushing you further and further into debt. You’ve heard of debt settlement, but you aren’t entirely sure what it means.


An agreement with creditors

Essentially, debt settlement means that creditors agree to accept a reduced payment in lieu of the full amount owed.

No one goes into debt settlement lightly but if it looks like someone is going to default on the payment entirely, partial payment is a better option than none at all.

Debt settlement isn’t even considered unless a person has already had an inordinate amount of late or skipped payments, with some debts possibly subject to collections. It is apparent the person is not able to pay their debts and there is no indication that without help they will be able to do so in the future.


Negotiations with creditors

In order to reduce your debts, the debt settlement company will negotiate on your behalf with creditors. This works with unsecured debt (debt that isn’t backed by an asset like a car or a house) such as credit cards. Generally, settlement companies don’t help with student loans, but there are all kinds of resources, such as the ones outlined here from Save Source, that individuals can turn to for help.


Savings account

Once a person begins the process of settlement they stop making payments on their debts and open a savings account where they deposit all their monthly savings. When the account reaches an appropriate amount, the settlement company negotiates the lump sum payment with the creditor.


Downsides to debt settlement

On the downside, debt settlement doesn’t always work because sometimes creditors will not agree to negotiate.

Building your credit score back up will be difficult. It will reflect the debt settlement for seven years.

Once you stop making payments on a debt, it continues accruing late fees and interest that will still have to be settled.

There is a fee to pay to the debt settlement company who works on your behalf – usually a percentage of the debt they eliminate through the settlement.

From the government’s point of view, forgiven debt is income. That means you could be responsible for paying taxes on that amount.