Benefits And Risks Involved In Personal Debt Settlement

As a result of the current economic crisis, many people are exploring personal debt settlement as an alternative to credit counseling and filing bankruptcy. Debt settlement is the process of negotiating a lower payoff amount with a creditor. Sounds simple, right? Unfortunately, debt settlement is not nearly as simple as it seems. Before choosing debt settlement, it’s important to understand its pros and cons.

What are the Pros of Debt Settlement?

Pay Less Than What Is Owed - One of the biggest pros of debt settlement is that it typically allows a consumer to pay 40% to 60% of what is owed to the creditor as full payment of the debt. This can result in significant savings on the principal balance of the debt as well as the interest.
Pay Off Debt Faster – Debt settlement allows a consumer to pay off debt faster than if he or she continues making the minimum monthly payment.
Stop Accrual of Interest – Some creditors will stop charging interest on the debt as an incentive for the consumer to agree to settle the debt.
Remove Derogatory Credit – Some creditors will remove all derogatory or negative credit from the consumer’s creditor report and show the debt as paid in full.
Avoid Bankruptcy – For most consumers, bankruptcy carries a stigma and, therefore, is an absolute last resort. Debt settlement may be a means of avoiding bankruptcy.
Avoid Attorney’s Fees – Although anyone considering debt settlement is advised to consult with an attorney, most consumers can successfully negotiate a debt settlement with a creditor.

What are the Cons of Debt Settlement?

Must Be Behind on Mortgage Payments – Debt settlement is only available to consumers who are four to six months behind on their payments.
Lower Credit Score – Unless the creditor agrees in writing to remove all derogatory credit, debt settlement may lower your credit score.
May Require a Lump Sum Payment – Depending on the creditor, a consumer may be required to pay the settlement amount in a lump sum.
May Require ACH Payments – If a creditor will allow a consumer to pay the settlement amount over time, it will usually require an automatic draft from the consumer’s checking account each month. This means that the consumer must have the agreed upon monthly payment in his account each month to avoid defaulting on the agreement.
Tax Consequences – When a creditor forgives credit card debt, it creates a taxable event for the consumer. The consumer will receive a 1099-C and must claim the amount forgiven by the creditor as income on his tax return.

Getting Legal Help

Before entering into a debt settlement agreement, you should consult with a debt settlement or debtor’s rights attorney. The attorney will review the agreement, explain it to you, and make sure that you understand your rights and obligations thereunder.

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