Woman worried about financial expensesDebt settlement is when a creditor agrees to accept less than the amount owed as full payment. Sometimes, if you’re in a lot of debt, it can be one of many solutions to help you handle it. After the negotiated agreement, collectors can’t continue to hound you for payment and it can head off lawsuits that can result in property liens and wage garnishments. You can use this method to resolve outstanding balances with a single creditor or multiple lenders.

Debt settlement is an option when your payments are at least 90 days past due, but works best if you are four or five months behind on payments.

How This Negotiation Agreement Works

This type of negotiation agreement only becomes an option when you have many accumulated late or skipped payments associated with one or more of your accounts.

Debt relief companies like Fresh Start (or yourself if you choose to go the DIY route) negotiate with creditors to reduce the total amount you owe them. This is mostly for unsecured debt, such as credit cards, medical bills or private student loans. It’s usually not an option for a loan that includes collateral, such as a home mortgage or car loan.

Instead of making payments to creditors, you deposit money into a savings account of sorts. Once the company thinks you have enough there to make a lump sum offer, they can negotiate on your behalf with the creditor(s).

Debt Settlement vs. Debt Consolidation

While debt settlement involves negotiating with creditors to negotiate for less than the total amount of a large amount due, debt consolidation is a bit different.

Debt consolidation is when you combine owed amounts from several lenders or creditors and take out one loan to pay them all back. Ideally, these payments are at a reduced interest rate and are hopefully less than what you might have paid to these creditors individually.

Debt consolidation might be a good option for you if:

  • Your total outstanding balance is a manageable amount for your level of income.
  • You need a lower interest rate than what you’re currently paying.
  • You want to reduce the number of payments you’re managing.

Debt Settlement Pros and Cons

Debt settlement is often perceived by financial professionals to be a bit riskier than consolidation, because it involves you withholding payment from creditors and then trying to work with them for less than the original amount. This can have a negative effect on your credit. In addition, reaching an payment arrangement may take 2 to 4 years depending on the situation. It can also have its own added expenses, for example, owing taxes on forgiven owed amounts.

Major Advantages

  • Avoids bankruptcy
  • No permanent public record 
  • Becomes a fraction of the amount owed
  • Reduced amounts owed facilitates faster repayment
  • Remainder of outstanding balances is permanently canceled 
  • Eliminates stressful collection calls, letters and emails
  • Helps prevent legal judgement, liens and garnishments

Major Disadvantages

  • Remains on credit record for 7 years
  • Some creditors may not negotiate
  • Repayment may take 2-4 years 
  • Taxes and fees may apply

Take a Credit Hit — But Avoid Bankruptcy

Let’s face it, if you have many late and/or skipped payments in addition to multiple accounts in collections, your credit has already taken quite a hit.

For individuals who are in this difficult position and looking for a way to avoid bankruptcy, this may be a good solution. Bankruptcy follows you for the rest of your life — it might only remain on your credit report for 10 years, but many applications for loans, credit cards and job applications ask if you’ve ever filed for bankruptcy. Deciding to go for settling with creditors instead can help you avoid bankruptcy and all of the consequences that follow.

How Long Does This Stay on Your Credit Report?

Naturally, many people want to know the answer to this question. The payment arrangement remains on your credit report for 7 years, a clear pro when compared to bankruptcy. This also scores another big advantage by not leaving behind a public record of how you resolved your outstanding balances. Once that 7 years is up and the lump sup is paid off, you don’t have to fret about it any longer.

Relief From Paying Outstanding Balances In Full

If you’re legitimately having difficulty paying back your outstanding balances, it’s likely causing you a fair amount of stress and anxiety. Once you’ve successfully negotiated and paid off the amounts owed, you’ll be caught-up in less time and at a lower cost than if you had tried to pay them off on a traditional repayment schedule.

Repay in Less Time

If you opt not to go with a debt relief program, it might take you many years to pay off the entire amount in small installments, and often at high interest rates. If you decide to opt-in, you’ll likely be able to pay off your balances in about two to four years, whereas it may take decades to do so otherwise.

Drawbacks to Outstanding Balance Payment Arrangements

It’s not all sunshine and roses, though — there are some drawbacks to choosing outstanding balance payment arrangements to solve your money woes.

First, companies aren’t guaranteed to agree to your arbitration offer (although remember, they’re more likely to agree with this type of approach if they think you might opt for bankruptcy). Your credit is also likely to take a hit, and you may even owe taxes on any canceled outstanding balances.

However, for many people, the ‘pros’ far outweigh the ‘cons.’ In the end, it depends on your unique situation.

Should You Get Help From the Pros or Take a DIY Approach?

Trying to go it alone is risky. You may be unfamiliar with the ins and outs of the process, but when you go with a trusted professional, such as Fresh Start, we negotiate with the creditor so you avoid the hassle. Let’s explore your options when it comes to handling a payment arrangement.

What’s the Difference Between Do-it-Yourself vs Going With Debt Relief Services?

If you have the time, patience and financial knowledge, you can attempt to negotiate with creditors yourself. But remember — during the negotiating period, you continue to miss payments, and so the damage to your credit continues to stack up. In the end, there’s no guarantee you’ll have a deal.

A better option may be to use debt relief services, which can negotiate for terms on your behalf. These companies usually have years of experience behind them, as well as established contacts at many of the creditors. Both of which can speed up the process and prevent costly mistakes.

Time and cost are the two main distinctions between using a company versus handling the situation yourself. 

You might be wondering how much companies charge – typically a fee of 20% to 25% of the total amount is charged, once you agree to a negotiated lump sum and make at least one payment to the creditor. The team of financial experts at Fresh Start can assist you with negotiating a lump sum on your behalf — call us for more details.

How Long Does It Take To Rebuild Credit?

The time it takes to improve your credit afterwards primarily depends on your credit history. 

Initially, your credit score is going to drop if you choose to take a payment arrangement offer. As mentioned before, during negotiations, you are not making payments, and so you fall further behind on your payments. However, it’s likely your credit score has already been badly damaged from these missed payments, and the good news is, once your money owed is settled, you can concentrate on rebuilding your credit with a clean slate.

As mentioned above, settled payment arrangements stay on your credit report for 7 years, either from the date the account was arbitrated or from the date you missed your first payment and never become current.

If this situation is an out-of-the-ordinary occurrence — such as you’ve paid off several account balances in the past and there is only one you’ve become severely delinquent on — it may help your credit rebound faster because lenders can see proof of your ability to repay on time.

Having other outstanding amounts on your credit history, such as a car loan, mortgage or other credit cards that you make payments on, is also likely to help you. Individuals who have a healthy, positive credit history, aside from this one mishap, may be able to start rebuilding their credit in as little as six months, or sometimes sooner.

However, if your credit history is lacking, it could be a bit more difficult. If you don’t have a history of paying off balances or you don’t have other loans out that you pay monthly, such as a car, mortgage or other credit cards, it may be more difficult to reestablish your credit as quickly.

Another factor has to do with how old the accounts were that you made an arrangement because the length of your credit history is a big factor in your credit rating. Ultimately, if your credit history is either poor or thin, it could take between 12-24 months to recover and get back on track.

How to Rebuild Your Credit After Completing a Payment Arrangement

The best thing you can do to start rebuilding credit is to pay your bills on time. Making timely payments is a huge factor when it comes to your credit worthiness. Also, keep your credit balances low, for a more favorable credit-to-debt ratio (another important credit scoring factor).

If after the payment arrangement you still have open accounts, such as other credit cards, a mortgage or car payment, make sure to make those payments on time, as this can help you rebuild your credit history too.

Debt settlement may not be for everyone, but for many people who have become delinquent on their payments, it offers a welcome solution. If you think you may be a good candidate, contact the financial experts at Fresh Start. We can help you get started with managing your outstanding balance before it spirals out of control. Call us at 800-346-9559 to speak with a financial consultant and get started on the road to living debt-free.