Debt Settlement Overview

Updated: Sep 1, 2015

Bills Bottom Line

Debt settlement can significantly reduce your debt. Consider a professional settlement programs if you have a legitimate financial hardship and can't make your monthly payments, or feel you can't hold things together much longer. Work with a reputable debt settlement firm that doesn't charge fees in advance.

(58 Votes)

Everything You Need to Know About Debt Settlement

Debt settlement can be a good solution to your debt problems. If you carry more than $10,000 in unsecured debt and struggle with, or are unable to make, your monthly payments, consider debt settlement.

A negotiated settlement can significantly reduce your debt, but it will impact your credit score. It is not an easy experience for everyone. Debt settlement offers a low monthly program payment, sizable debt savings, and short time to debt freedom, but there’s no gain without some pain.

Get a Free Debt Relief Quote
Contact one of’s pre-screened debt help providers for a free, no-obligation debt relief quote.

What is Debt Settlement?

Debt settlement, also called debt negotiation or debt resolution, is a process where settlements are negotiated with your unsecured creditors, where they agree to forgive a part of your balance, frequently saving you between 40% to 60% of what you owe. Results can vary widely.

After a settlement is reached, you pay the reduced, agreed-upon sum. In some cases, you will pay this settled balance in payments, over a  structured period of time.  More frequently you pay off the reduced balance in a lump-sum payment.

How Do I Get a Debt Settlement?

You can negotiate directly with your creditors, or you can apply for debt settlement and hire a debt settlement service to negotiate for you. Debt negotiation professionals generally are more successful at negotiating a settlement than individuals. They have the experience to know how each creditor works, what it is willing to settle for, and when a creditor will take a settlement in payments or demand a lump-sum.

The best debt settlement providers settle a large volume of debt, so they have the have bulk and scale necessary to leverage their relationships with the creditors to benefit all of their clients. They also know which creditors won’t settle debts.

No Up-front Fees

Only work with a debt settlement firm that does not charge up-front fees. Any debt settlement firm that telemarkets its services is not allowed to charge up-front fees. Lawyers and debt settlement firms that meet with clients face-to-face can charge up-front fees.

It makes no financial sense to work with any firm that charges you fees in advance, when you can find reputable, experienced settlement firms that won’t charge you a fee for any account they settle until after the settlement is finalized.

A firm that charges you for their services only after an account is settled has a higher motivation to settle your debts.

Debt Settlement Pros & Cons
Pros Cons
Debt Settlement Pros and Cons. Source:
Significantly lowers monthly payment Credit rating impact
Lowest cost to get out debt, while avoiding bankruptcy Collection calls
Speeds up the time to debt freedom Creditors can pursue legal action
One payment each month can resolve multiple debts Possible tax implications

What are the Benefits of Debt Settlement?

The biggest benefits of debt settlement are:

  • Significantly reducing your total debt
  • Speeding up the time it takes to become debt free
  • Lowering the size of your required monthly

If your debt is so large that you can’t pay it off, you may you consider bankruptcy. Settling your debt is a much less drastic option. Although it harms your credit, the damage is much less severe than filing bankruptcy. Also, settlement is not a public record the way that bankruptcy is.

Typical settlement savings are in the range of 50% of what you owe. Your mix of creditors and the settlement provider you choose could produce very different results. These dramatic savings are based on your current account balances.

Compare your total costs in a settlement program to your total costs paying off your debts making the size payments you make currently. When you factor in all the interest you would pay your creditors, and the number of the years it would take you to pay everything off, the savings from debt settlement are even larger. Your monthly payment in a settlement program is lower, too.

What Are the Drawbacks?

The two main drawbacks to settlement are the:

  • Potential for having the amount you settle considered taxable income
  • Damage to your credit

Balances that are forgiven are usually considered taxable income by the IRS. However, if you meet the IRS' definition of hardship, at the time of your debt settlement, you may not have any tax obligation for the forgiven debt.

Seek advice from your tax adviser on Cancellation of Debt Income, and be sure to ask about IRS Form 982. Form 982 can be used to excuse your requirement to declare the forgiven debt as income.

Even if you have to pay taxes on the settlement, it is far cheaper than having paid back the debt in full. Say, for example, you owe $10,000 and settle the debt for $5,000. You may have to pay taxes on the $5,000 you saved, if you aren't eligible to use the Form 982, but the taxes you could owe will be far less than paying back the full $5,000.

Settlement harms your credit because you are not making monthly minimum payments to your creditors during your settlement program. This results in delinquencies appearing on your credit report which lower your credit score. The experience can also be stressful, since you may get collections calls and could even be sued. You have to balance those concerns out against the significant savings.

Many people entering a settlement program already have damaged credit, due to late payments and carrying a lot of debt. For someone whose credit is already damaged, the benefit of saving money can be far more important than concerns about harm to an already damaged credit score.

What Kinds of Debt Can Be Settled?

Credit card debt settlement is the most common type of debt that is settled, although medical debts and other personal loans can also be settled. Mortgages, car loans, and other secured loans can’t be settled. Secured loans are backed by collateral that the creditor can repossess if payments are not made as agreed.

Federal student loans also can’t be settled due to federal law. Private student loans might be eligible. Loans made directly by a school may be eligible, so ask your debt consultant. If settlement is not an option for your student loans, contact your lenders to request consolidation, deferment, or forbearance.

Bills Action Plan
There are a lot of different ways to approach getting out debt. The right solution for you depends on your income, assets, credit rating, and your specific goals.
  1. Start by evaluating your budget, so you only commit to a debt solution with a payment you can afford to make each month.
  2. Compare your different options, before you make a decision. Use the the free DebtCoach tool, to evaluate your situation and find the solution best suited for you.
  3. Only work with a reputable debt relief company, one that does not charge any fees up-front.
(58 Votes)


Recent Best
1500 characters remaining
  • JB
    May, 2014
    Maple Shade, NJ
    In response to an entry on my CR which listed a credit card account with a date from 2011, I sent the collection agency a request for validation. They sent me two credit card statement, one from 2008 and one from 2009. No other documentation was included. The balance on the statement was half of the amount they listed on my credit report. What should I do now.
    0 Votes

  • RM
    Feb, 2014
    Temecula, California
    In 2008 I lost my Job. Next months rent was coming up on our apartment.. so, rather than getting evicted we up and moved with family. We breached our lease agreement after 3 months and since we didn't give a 30 day notice they tacked on the following months rent as well as the first months free rent making a debt of $2700 owed. Now (2014) we are back on our feet and trying to buy a house. The only thing negative on our credit is this debt. Now the debt is $5600! I tried to negotiate with the creditor and they gave me an offer to settle at $3500 and clear it off our credit report. I was content with that until he said he couldn't give me a written offer. Obviously, I do not want to pay the agreed amount and then be left still with a remaining unpaid balance.. What Can I do? its like they don't care to have their money. Is it legal for the creditors to apply all this interest? This is not a loan we are talking about, mind you this was a breach of a lease agreement do to financial hardship. Can I take this to litigation? ask the judge if amount can be reduced?
    0 Votes

    • BA
      Feb, 2014
      You asked, "Is it legal for the creditors to apply all this interest?" Maybe. What does your lease contract say about interest and fees if you are in breach of contract?

      Consult with a lawyer who has consumer law experience to learn if the fees and interest are compliant with your state's laws, and to help you negotiate with the creditor.
      0 Votes

  • MV
    Jul, 2013
    Pomona, CA
    After paying 8 years on a timeshare with about only $3,700 left to pay I was sent a possible foreclosure letter that was filed with the court. I have 20 days to respond. I wasn't even aware that my account had changed. But I would like to resolve the issue especially since there was only 2 years left to pay. My ex and I separated a year after the purchase so this is really something I never used. What do you recommend I do? What are my options?
    1 Votes

    • BA
      Jul, 2013
      From outward appearances, this is a situation where the lender changed your account information, and you continued to make payments that vanished into the lender's receivables database. Call the lender today and ask where your payments went, and insist they apply them to your account.

      It is unclear from your message, but the lender may have started the foreclosure process. If you make no headway in your telephone call to the lender, consult with a lawyer who has mortgage negotiation or foreclosure experience immediately. If the lender started a foreclosure, a clock is ticking and you must take immediate action.
      0 Votes

  • TP
    Jun, 2013
    Chicago, IL
    First I want to say that you all have a lot a valuable information on Thank you for putting time into this.

    I had a payday loan in 2006 or 2007. I lost my job so I revoked the payday loan ACH withdrawals by sending them a letter. After that time I moved. They sued me sometime in 2007. I don't know for sure when because I wasn't served. I was pulled over for an illegal u-turn in 2010 and at that time was arrested because the creditor received a warrant from a judge. I paid 10% to get out of jail and went to county court for a hearing. The judge said they would apply the bond and satisfy. It wasn't the full amount (in my opinion my night in jail was! I know that's not how it works, just saying). Anyway, I am working to get to a point to find a way to pay them. It's on my credit report status as "filed" and reported 7/2008. I was wondering in my efforts to maybe settle with them can I ask they remove the judgment from the court and my credit report. Should I even try to settle? If so, do you have sample settlement offer letters?
    0 Votes

    • BA
      Jun, 2013
      Consult with a lawyer who has consumer or criminal law experience, and ask him or her if your state can seal the arrest record. does not offer a sample settlement letter. We may add one to our debt do it yourself in the future. It sounds like you have a judgment that resulted from the suit you were not aware of. If that is the case, if you settle the debt, your credit report will show "judgment satisfied." The fact that there was a judgment against you will remain for 7 years or the length of time a judgment can remain in your state (whichever is longer). Once it is satisfied, it should not be an impediment to qualifying for any future credit applications.
      0 Votes

  • MH
    May, 2013
    Katy, TX
    First off, I'd like to thank you for all of the valuable resources here at, it can be invaluable for someone feeling lost, trying to get their things in order.

    I am curious about a couple aspects of debt settlement. The information out there seems to be skewed over the effects of settlement, e.g. a charge off outside the statute of limitation is settled. Does this improve your credit score, or has the damage been done? I know that the updated status can vary, but is deletion the only way to boost your score?

    My situation summarized: I am extremely determined to get my family into a larger house. Unfortunately, I have 4 charge-offs CC accounts dating back to 2008/9, preventing me from getting a new mortgage. About these 4 accounts, 2 of them have already past Texas's 4 year statute of limitations. The other two will expire in the next couple of months. Needless to say, these are killing me and need to put together a plan and execute, but I cannot afford to make the wrong decision. I hired a credit repair company in 2012 and a year later, not much has changed. My scores improved, but are still right below 600 and aren't moving anymore. Currently, we have 2 car loans, a mortgage, and 4 or 5 smaller credit cards, all of which have all been paid and kept current.

    It is obvious I need to handle the charge-offs, but will a settlement improve our scores if they remain on our credit?
    0 Votes

    • BA
      May, 2013
      We have seen no statements from Fair Isaac & Co. or other evidence that paying off accounts less than 7 years of age boost a consumer's FICO score.

      Keep in mind your credit score is one piece of the creditworthiness puzzle. Paying-off <7 year-old debt will improve your debt-to-income ratio. Having a sky-high credit score will not qualify you for a mortgage if your DTI is high, too. Therefore, you are doing the right thing by settling <7 year-old accounts.

      In all but two states, just because a debt is older than the statute of limitations does not mean the creditor is barred from collecting the debt. You mentioned Texas. In Texas, a creditor can still file a lawsuit against you at 4 years + X days. However, because the statute of limitations has passed, you can file a motion to dismiss based on the SOL passing. If the court accepts the dates you provide in the motion, it will dismiss the case.

      Unfortunately, misguided Internet commentators over-simplify the rule to, "If the SOL passes the lender can't sue," which as I mentioned, is dead wrong in all states but two.

      The best way to boost your score is to continue to make your payments on time, and cut the balances due on the 4-5 credit cards you mentioned.
      0 Votes