- 4 min read
- Debt settlement has the lowest monthly payment of any debt relief solution, other than Chapter 7 bankruptcy
- Debt settlement has the shortest time to debt freedom, outside of Chapter 7
- Debt settlement usually reduces your monthly payment from your required monthly minimums
Understanding the Pros and Cons of Debt Settlement Programs
If you are reading this article, it is probably because you want to get out of debt.
Getting further in debt each month or not being able to make your required monthly payments can be depressing and deflating. It is easy to become paralyzed, letting your debt problem grow, even once you realize that you need to take action to change things.
If you are struggling with debt, there different debt solutions available. Each solution has its own pros and cons. When you are trying to find the right solution, it is important that you find one that fits your financial situation.
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Debt Settlement Pros
Debt settlement is a solution to consider if you are in a financial hardship, unable to make your current payments or about to reach that point. It is not the right choice if you are able to solve your debt problem by cutting spending and paying down your debts systematically.
Designed for Someone with a Financial Hardship
You would be a typical debt settlement client if you were living within your means, had established good credit, and then suffered some financial hardship. Common hardship reasons for entering a debt settlement program are job loss, divorce, and unexpected medical costs not covered by insurance. Any one of those could cause even a financially responsible person to use credit to live on and accumulate a fair amount of debt, often in a relatively short time. The choice can simply be: use credit or don't pay for necessities.
Reduce Your Monthly Expenses and Pay Back Less than You Owe
Debt settlement can be an excellent option if you:
- Want to avoid bankruptcy.
- Need a smaller monthly payment than your current creditors require.
- Can afford to pay off your debt if your creditors are willing to take less than the full amount you owe.
- Value keeping your debt situation private.
Debt settlement programs have a smaller monthly payment than all other debt solutions that are alternatives to bankruptcy. There are no upfront costs in legitimate debt settlement programs.
You may be able to improve your monthly cash-flow significantly, while working to pay off your debt. That is because, the size of a monthly program payment in a debt settlement program is often significantly lower than what your creditors require as a minimum payment. The program payment is also likely to be less than you would pay in Consumer Credit Counseling (CCC) program or for an unsecured personal loan (if you can qualify for one).
The total costs of a debt settlement program should also be much lower than the total costs in a CCC or on a personal loan. In those two solutions, you are paying back 100% of what you owe plus interest, and likely fees, too. In debt settlement, you pay back a percentage of what you owe. Even accounting for the fees that a debt settlement firm charges, plus any potential tax obligations, you should save significantly, realizing these savings while putting out less money each month.
Debt settlement is a private matter between you and your creditors. Bankruptcy is a Public Record and the notation on a credit report can remain for 10 years, years longer than any derogatory account enrolled in a settlement program. Bankruptcy could impact ability for a person to obtain certain types of employment and/or security clearances. Debt settlement is not known to others, so will not have an impact.
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Debt Settlement Cons
Debt Settlement is generally the least expensive bankruptcy alternative. It offers the lowest monthly payment and overall costs of any debt relief option that avoids bankruptcy, but debt settlement does have significant downsides.
When you sign up for a debt settlement program, or choose to negotiate with your creditors on your own, you must choose to stop making monthly payments to your creditors. This is because a creditor is not going to agree to reduced-balance settlement if you are making your required payment each month. Breaking the monthly payment relationship is necessary to get the creditors to consider other alternatives.
Credit Score Harm
Because you are not making monthly payments on your debts, creditors are going to report your late payments to the credit bureau, harming your credit score. How important is the hit to your credit? That depends on what your credit looks like currently and what other options you have. If your credit score is already suffering, as is the case with many debt settlement clients, your debt problem probably needs to be solved before your credit score can rise.
The primary benefit of good credit is getting good interest rates on new debt. If you are considering debt settlement, you are not looking to take on new debt. You want to get out of debt and will likely place a higher value on getting out of debt than on the impact on your credit.
Dealing with debt
If you are struggling with debt, you are not alone. According to the NY Federal Reserve total household debt as of Quarter Q2 2023 was $17.06 trillion. Student loan debt was $1.569 trillion and credit card debt was $1.031 trillion.
A significant percentage of people in the US are struggling with monthly payments and about 26% of households in the United States have debt in collections. According to data gathered by Urban.org from a sample of credit reports, the median debt in collections is $1,739. Credit card debt is prevalent and 3% have delinquent or derogatory card debt. The median debt in collections is $422.
The amount of debt and debt in collections vary by state. For example, in California, 21% have any kind of debt in collections and the median debt in collections is $1824. Medical debt is common and 8% have that in collections. The median medical debt in collections is $712.
Avoiding collections isn’t always possible. A sudden loss of employment, death in the family, or sickness can lead to financial hardship. Fortunately, there are many ways to deal with debt including an aggressive payment plan, debt consolidation loan, or a negotiated settlement.