According to the Federal Reserve G.19 report, the cumulative US consumer debt, excluding mortgages, reached $2.56 trillion. This has led to a number of consumers turning to debt settlement companies in order to reduce credit card debt. The objective of debt settlement is to write-off debt, thus alleviating money problems. It works on a similar basis to filing for bankruptcy under chapter 13, but without the legal protection.
Advantages of Debt Settlement Companies
- Write-off debt. Debt settlement companies claim to be able to clear 50-60 per cent of credit card debt through a negotiation process. Filing for bankruptcy under chapter 7 could clear 100 per cent of credit card debt, but there remains a greater stigma attached.
- Reduce monthly repayments. According to Experian marketing insight snapshot, the average US consumer had an average of 5.4 cards. It is possible to make a single monthly payment to cover all credit card debt and alleviate money problems.
- Delinquent accounts. Some providers will be prepared to accept a reduced amount and remove any adverse entries from personal credit reports. Filing for bankruptcy could mean that credit scores are affected for 7 years.
- Convenience. Debt settlement companies offer greater convenience. A single payment is made and the debtor has someone to turn to with regard to their money problems.
Disadvantages of Debt Settlement Companies
- Low credit card score. Not making even the minimum monthly payment on credit card debts causes personal credit scores to deteriorate. If no payment has been made for quite a while, it is unlikely that debt settlement companies will cause any further deterioration.
- No court protection. Unlike filing for bankruptcy, no court protection is offered to consumers.
- Management charges. The front-loading of management fees means that the ‘real’ savings achieved from being able to write-off debt are far less. The majority of debt settlement companies charge their clients 15 per cent of any outstanding debt.
- Creditor harassment. The front-loading of fees means that creditors are unlikely to receive their money for a longer period of time. A number of card providers won’t be agreeable and will continue to pursue consumers for repayment. Filing for bankruptcy not only provides greater protection from creditors, it also prevents further interest and charges accruing.
- Credit report. Choosing to write-off debt by this method will often mean that it shows on a credit report as ‘settled debt’ rather than ‘paid in full’.
- Debt still owed to original creditor. The use of debt settlement companies should only be considered when a debt has been ‘sold-on’ to a debt collection agency. When this hasn’t taken place, it is preferable to consult a charitable debt counseling service.
- Taxation. Any forgiven debt is reported to the Internal Revenue Service (IRS) and is considered a form of taxable income.
Debt settlement companies help consumers to write-off debt and reduce money problems. However, the amount of debt written-off isn’t as much as anticipated due to the front-loading of management charges. This means that credit card debt can actually increase in the short-term. Consider filing for bankruptcy as it affords full legal protection from creditors.