Debt Settlement Pros and Cons

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Debt settlement is when you negotiate with a creditor to settle your debt, often for less than what you owe. If the creditor accepts the settlement, you’ll typically have to make a lump-sum payment to resolve the debt.

In some situations, settlement could be a helpful option to take control of your debt — such as if you are behind on payments or have a high balance that will be difficult to repay. However, there are other payoff strategies that might better suit your needs. In any case, it’s important to weigh the pros and cons of debt settlement so you can make the right choice for your situation.

Here are debt settlement pros and cons to keep in mind (along with other options to consider):

Debt settlement pros and cons

While debt settlement can be a good choice in some cases, it isn’t right for everyone. Here are some pros and cons to consider while weighing your options:

Benefits

• Might be able to settle for less than what you owe: A creditor could agree to a settlement that’s less than what you owe. They might also be willing to waive fees or interest charges.
• Pay off debt sooner: Settling a debt lets you pay off your balance all at once rather than spending months or years making payments — meaning you can quickly lessen the strain on your budget.
• Stop calls from collection agencies: If you successfully settle a debt, the calls from collection agencies should stop. Just keep in mind that it could take several months for the paperwork to be resolved before the calls will cease.
• Could help you avoid bankruptcy: Filing for bankruptcy can help borrowers who are overwhelmed by debt take control of the situation — however, bankruptcy will severely damage your credit, so it should be a last resort. Negotiating a settlement might provide you with the financial breathing room you need to avoid bankruptcy. It should also keep your creditors from suing you in an attempt to recoup their losses.

Disadvantages

• Creditors might not be willing to negotiate: There’s no guarantee that a creditor will accept a settlement offer.
• Could come with fees: For-profit debt settlement companies typically charge fees for their services — usually 20% to 25% of the final settlement amount.
• Could hurt your credit: Resolving a debt for less than what you actually owe could have a negative impact on your credit. Additionally, many debt settlement companies will encourage you to stop making payments while they attempt to negotiate with your creditor, which will further damage your credit.
• Debt written off might be taxable: If a creditor agrees to settle, the difference between what you owe and what you pay might be taxed as income.

Learn More: Credit Card Consolidation Loans

Debt settlement alternatives

Debt settlement can be a valuable option for taking control of debt — however, it also comes with several risks that aren’t always worth it for every situation.

The good news is that there are several other strategies that could help you pay off your debt more easily. If debt settlement doesn’t seem right for you, here are some alternatives to consider:

Get a balance transfer credit card

With a balance transfer credit card, you can move a credit card balance from one card to another. Some balance transfer cards come with a 0% APR introductory offer, which means you could avoid interest charges if you pay off your card before this period ends.

Apply for a debt consolidation loan

A debt consolidation loan is a type of personal loan that you can use to pay off debts. This will leave you with just one loan and payment to manage.

If you decide to take out a personal loan to consolidate debt, be sure to consider as many lenders as possible to find the right loan for your situation. Credible makes this easy — you can compare your prequalified rates from our partner lenders in the table below in two minutes.

Use the debt snowball method

In some cases, you might need to simply repay your debts as quickly as possible. One payoff strategy to consider is the debt snowball method. With this method, you’ll focus on paying off your smallest debt first.

Here’s how it works:

Use the debt avalanche method

Another payoff strategy to think about is the debt avalanche method. With this method, you’ll focus on paying off your debt with the highest interest rate first.

Here’s how it works:

Consider a debt relief program

In addition to debt settlement, there are also other debt relief programs that might help you take control of your debt. One option to consider is a debt management plan, which is offered by many nonprofit credit counseling organizations — such as the National Foundation for Credit Counseling.

If you sign up for a debt management plan, your credit counselor will help set up a voluntary agreement between you and your creditors. You’ll then make monthly payments to the counseling agency, which will disburse the funds directly to your creditors. It typically takes three to five years to successfully complete a debt management plan.

Check Out: How to Pay Off Credit Card Debt Fast

Debt settlement next steps

If pursuing a debt settlement seems like the right option for you, here are some tips to keep in mind:

• Consider how much you can pay. Settling a debt typically requires making a lump-sum payment. Before starting any negotiations, run through your budget to see how much you can reasonably afford to pay.
• Decide if you want to work with a debt settlement company. You can negotiate with a creditor on your own — however, this can be quite intimidating. Just keep in mind that working with a for-profit debt settlement company will likely come with fees — usually 20% to 25% of the settlement amount. Additionally, these companies often ask borrowers to stop making payments while attempting to negotiate, which could damage your credit.
• Watch out for debt settlement scams. Unfortunately, there are plenty of scammers looking to take advantage of people who are trying to settle their debt. If you decide to work with a debt settlement company, make sure to do your research and verify that the company is trustworthy, such as by checking for customer reviews through the Better Business Bureau and Consumer Financial Protection Bureau.
• Consult with a tax professional. If you’re able to settle your debt for less than what you owed, consider speaking with a tax advisor to see how that settlement will affect your taxes owed for the year. This can help you avoid any unpleasant tax surprises.

Keep Reading: Best Personal Loan Companies

About Rates and Terms: Rates for personal loans provided by lenders on the Credible platform range between 4.99-35.99% APR with terms from 12 to 84 months. Rates presented include lender discounts for enrolling in autopay and loyalty programs, where applicable. Actual rates may be different from the rates advertised and/or shown and will be based on the lender’s eligibility criteria, which include factors such as credit score, loan amount, loan term, credit usage and history, and vary based on loan purpose. The lowest rates available typically require excellent credit, and for some lenders, may be reserved for specific loan purposes and/or shorter loan terms. The origination fee charged by the lenders on our platform ranges from 0% to 8%. Each lender has their own qualification criteria with respect to their autopay and loyalty discounts (e.g., some lenders require the borrower to elect autopay prior to loan funding in order to qualify for the autopay discount). All rates are determined by the lender and must be agreed upon between the borrower and the borrower’s chosen lender. For a loan of $10,000 with a three year repayment period, an interest rate of 7.99%, a $350 origination fee and an APR of 11.51%, the borrower will receive $9,650 at the time of loan funding and will make 36 monthly payments of $313.32. Assuming all on-time payments, and full performance of all terms and conditions of the loan contract and any discount programs enrolled in included in the APR/interest rate throughout the life of the loan, the borrower will pay a total of $11,279.43. As of March 12, 2019, none of the lenders on our platform require a down payment nor do they charge any prepayment penalties.

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