In our unpredictable everyday life, everybody can reach the dreadful point where they find themselves incapable of making their loan repayments. Whether it is mortgage, business credit, or an instant loan, having financial difficulties can be disruptive. Fortunately, there are many financial tools that can offer you different options to consolidate your debt. One of them is debt settlement. It is a process that is frequently confused with other means of credit reduction such as debt consolidation. There is a significant number of debt settlement companies that sell this approach as a greatly effective way of drastically cutting financial obligations that is completely harmless to the debtor. On the other hand, credit settlement as a debt reduction service has a fair share of supporters and naysayers. They describe it as a last resort option that should normally be avoided at any cost, unless it is the only course of action left in terms of lowering indebtedness. The truth, however, is somewhere in the middle. Before reaching for credit settlement, you should take your time to familiarize yourself with all the pros and cons of this highly specific and sometimes risky arrangement.
Debt settlement vs debt consolidation
Debt settlement and debt consolidation are often confused as being the same. The main function that they share is that when implemented, both strategies end up reducing the amount of money that the debtor owes the creditor. Nevertheless, they are quite different in the way they operate and in the end, they both serve strikingly different purposes.
- credit settlement is arranged when the debtor wants the lender to reduce the overall amount of a single debt that is to be returned.
- in the case of credit consolidation, the debtor combines a number of different debts into one, newly created loan. In this way, the debtor basically services all his loans by making just one monthly payment with a single interest rate instead of doing several repayments. The debt consolidation service can be offered only by a financial institution and there is one necessary prerequisite that the applicant should cover – the consolidation loan must be secured by a collateral.
What is debt settlement?
So, the question you are probably asking yourself right now is: what exactly is debt settlement and how does it work? On the surface, it is a simple arrangement between the debtor and creditor according to which a lower lump payment is taken as full payment. And while that explanation sounds strikingly similar to other forms of debt management, debt arbitration is an extremely complicated process and absolute care should be applied by anyone who chooses to use this financial strategy as a means of reducing the amount of money they owe.
Imagine a situation where you find yourself unable to keep up with your credit card debt. Naturally, you decide that negotiating lower monthly payments is the key to resolving your financial issues. The only problem is that you have absolutely no idea that someone can carry out such type of credit negotiation, so you decide to turn to a debt settlement company. After sweet-talking you into using their services, they come up with a brand new payment plan that includes lower monthly instalments for your debt. However, there is one condition that you should abide by. These lower instalments cannot be transferred to your bank account no more. Instead, you start making transactions directly to the debt settlement company and they put all the payments into a savings account. You can think of it as a special purpose account which is made exclusively for the purpose of consolidating your debt. As soon as that account reaches a certain sum, the company gets in touch with your creditor (in that case, the bank) and arranges for a settlement with them. When both sides come to agreement, the company transfers the generated sum in your account to the creditor and your credit is settled. The company subsequently fixes a fee based on the debt, which is the price you have to pay for using their service.
The hidden risks of debt settlement
So far so good, you may say. Debt arbitration, however, is not as safe as it sounds and sometimes it can turn out to be outright perilous for the debtor. The reason for this is that, unlike debt consolidation, from the moment you start making monthly payments to the debt settlement company, you stop paying your creditor. Remember, the instalments go to the account that the company has made for you with that purpose. And since most companies settle the debt with a lump sum payment, a certain amount of time passes between ceasing payments to your lender and the final point of the debt settlement. As a result, your activity is reported to the credit bureaus and you may start getting collection calls. And precisely here lies the downside of debt arbitration.
The thing is that successful debt arrangement cannot erase your behavior as as unreliable debtor. Consequently, when the loan is settled, the lender will revise your account by putting it under two interchangeable labels –
- “Paid Settled”
- “Settled for less than owed”
And while both imply that the debt was paid, neither of the two has the institutional authority of “Paid in Full”. One thing is for sure – in the end, your credit score will undoubtedly plunge. Moreover, the negative information remains on your record for up to seven years, even if the credit arbitration company manages to successfully settle your debt. What this means for you is the great hardship in taking out more loans until you update your account with information that offsets the negative history. After all, there is not a single trustworthy lender that will approve a loan with no credit check done prior to that. In some cases where the sum reduced from the credit is larger than average, your credit history may hinder job applications and prevent you from negotiating for favorable insurance terms.
Additionally, you should take into account that debt settlement companies are profit-driven organizations. As such, they are constantly aiming at maximizing revenue. Sometimes this means sparing you information that may turn out to be crucial down the road. This is very much like the companies that promise guaranteed loans with 0% interest rate and same-day approval. For example, there are some credit institutions that refuse to work directly with debt settlement companies. And then there are companies that choose to withhold such information by simply not telling you at the initial stages of the process. Why? In the case where a particular creditor refuses to work with credit settlement company, the company will not take action until the creditor passes your debt to a debt collector (it can be a debt collecting agency, an attorney or a debt-buyer). What this means for the credit negotiation company is a larger fee on your credit. What this means for you is that your account will remain delinquent for a longer time period which may affect your credit record more adversely than it is necessary.
Moreover, there are companies that will not tell you that you can try to settle the debt all by yourself which you can sometimes end up negotiating much more advantageous deal for yourself.
Negotiating debt settlement by yourself
In some cases, the creditors are willing to arrange credit settlement directly with the debtor. This most often happens when the debtor is behind on his loan repayments, but is still capable of carrying out a lump sum payment.
Negotiating debt settlement with no settlement companies involved has its advantages, the most obvious being the fact that you save money from service fees. Also, by arranging debt on your own, you have a clear view on the negotiation process and retain full control over arbitrating payment terms and conditions. This benefit, however, can be exploited only if you are fully aware of the process’s intricacies and your creditor’s policy when it comes to credit settlement. Every creditor has a different course of action and debt arbitration procedures are different according to the individual debtor’s situation. This is where settlement companies can be greatly beneficial. After all, their professional activity consists of supporting the debtor through the exhausting occasions when creditors become pushy, as well as guiding him through the whole decision making process which can get pretty complicated.
So, before jumping into settling debt by yourself, make sure you are prepared for the all the questions and difficulties, as well as the paperwork involved. Credit arbitration is a long and tedious affair that is also psychologically and emotionally burdensome. It is your own loan that you are dealing with after all, so always be careful when deciding whether debt settlement or debt consolidation is the better option for you.