Debt Settlement: what are realistic expectations?
If you gaze down the row of ads when you “search” for debt settlement, you can often come across some pretty unbelievable claims. Some companies state a 50%, 60%, or even a 70% reduction in your total debt…
This “HUGE REDUCTION” would definitely appeal to anyone swimming in an ocean of credit card debt. But, should you buy into this tremendous hype? The answer is N-O. Before you make any rash decisions, you need to step back a minute. Learn a little bit about how these companies operate and how they actually profit off you and your debt. Once you grasp how debt settlement companies work, it’ll be much easier to decide if a settlement company is the right answer to your problem.
How Does the Debt Settlement Industry Profit OFF of Broke Clients?
Debt settlement is a very profitable industry. Which can be hard to believe because all of their customers are dead BROKE! So how do they make so much cash, when their most of their clients have a negative balance? They make money from monthly fees, upfront fees, and percentage fees based on the amount of money saved or the entire debt. There is no standard set of fees for the debt settlement industry, that’s why things can get very confusing for the average consumer.
Some companies charge a percentage of your entire debt (maybe 15%), while others charge a higher percentage (around 25%) of the what they save you. When you start working with a settlement company, they negotiate with your creditors for you, and you begin to make monthly payments into an escrow account (under the settlement companies control). The bad thing for the consumer is that at first, your monthly fees for about the first 4-6 months go MOSTLY toward paying the debt settlement company, even before you even pay 1 cent toward your actual debt. This is a little scary because I’m sure you want to resolve this situation A.S.A.P. The average repayment length for the completion of a debt settlement program is about 2 years. So, be sure you are ready for a solid 2 years of monthly payments.
The truth is that sometimes you really can get a “major” reduction in debt (even honestly up to 50%, 60%, 70%), but it will often cost you more than you think. You really only get huge savings if you are months past due on your bills and are teetering on the verge of bankruptcy. Most of the time this huge reduction can be offset by some pretty large upfront fees and monthly fees from the settlement company.
Why do Creditors Settle?
Your creditors will settle if they believe there is a chance you may file for bankruptcy. Credit card companies are often last in line if a bankruptcy court liquidates your assets. So, they will settle debt to cut their losses and manage their risks. Creditors with secured debt (like mortgage holders, lien holders) get first dibs on any funds generated from an asset liquidation in a bankruptcy. So, unsecured creditors (credit card companies) often get let holding an empty bag if you decide to go BK. Depending on the point you are at debt-wise, and how far you are behind on your payments, a creditor may respond negatively or positively to your request for a settlement.
Things that make you more qualified to settle:
1) 6 months or more behind on your payments
2) You have no home or other assets to protect
3) sporadic or unstable income
4) good candidate for bankruptcy
Should you hire a debt settlement company or try it yourself?
In some cases you might be able to work your own debt case, but if you lack the knowledge and the will to do it, you may want to hire a professional. Credit card issuers can respond much more favorably to a lawyer who speaks the same terminology, and knows the ins and outs of negotiation. As a layman you may ask for a reduction amount that may be considered insulting and could make bad situation worse. When someone is working on your behalf, it can take out the emotions out of your case. A lawyer will be all business and won’t get heated during the negotiation process. It is also nice to remove some of that burden off of your shoulders and hand it off to someone who is qualified.
That being said, if you are looking to hire a debt settlement professional you should exercise due diligence and find someone who is fully qualified, and will not overcharge you for their services. Investigate how they will be taking fees, and what happens if you drop out of the program mid-way. If you drop-out do they just keep all the money you paid them? (usually YES) Also, do they charge you based on what you save, or how much total debt you have? Look them up online in the Better Business Bureau and see what their rating is, and if they have any complaints. You could even ask if they can refer you to a satisfied customer, and ask them about their personal savings with the company. If you decide to to do debt settlement, you need to be sure you can stick it out. If you don’t, all the money you’ve invested will be a waste. These programs have about a very high dropout rate (up to 45%) , so before you sign up, make sure you are going to be committed.
Remember, Debt settlement is taxable
One of the most difficult pills to swallow when it comes to debt settlement, is that your savings gets taxed. Your settlement savings is considered taxable income by the IRS! Some people can get around this tax by declaring themselves insolvent, but this exemption is not available to everyone. You can only be considered insolvent if your debt is greater than the value of your assets. So if you have positive equity in your home (greater than your debt) or even have a retirement account that is worth more than your debt, you CANNOT be declared insolvent. So if a settlement company tries to skirt around the tax issue, you know they are being evasive, so move on to a more reputable company.
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