Last Updated on May 21, 2021 by MoneyVisual
Being in debt and not paying it on time will damage your credit score for sure no matter how desperately you try to repay it after that. You may try paying it by taking on a debt consolidation loan, opt for debt settlement negotiations, hire a credit counseling agency and work through them, file for bankruptcy but nothing will save your credit report from that tiny dark spot indicating you failed to make your payment on time, once upon a time.
While all other options apart from bankruptcy will need you to pay your debt in full, it is only a debt settlement that will legally permit you to pay less than the amount that you actually owe to your creditor, credit card, or otherwise. It is, for this reason, most debtors opt for this and in most cases without realizing the consequences of knowing the truth behind it.
Surprisingly, debt settlement may not be a worthy option for you most of the time even if you pay the largest amount as a lump sum to your creditor. The fact that it will be lower than the actual amount due will never be hidden from the credit bureaus and will reflect in your credit history report.
Therefore, it will not be exaggerating in the least sense if it is said that if you ‘settle’ your debt it will rather ‘unsettle’ a few things in the process.
Knowing the Process
Debt settlement service is usually offered by third-party companies. The entire process is risky and not guaranteed as well. It will not only have a negative impact on your credit score but will eventually cost you more money than you realize.
It is therefore required that you know the process and do your research to avoid falling in the debt relief scams. You must also know the pros and cons and how debt settlement may affect your credit score before making the final decision.
- Debt settlement companies are often referred to as ‘debt relief’ or ‘debt adjusting’ companies and offer to contact and negotiate with the creditors on your behalf. Often claiming that they can provide a better payment plan and reduce and settle your debt, they charge a fee which is typically a percentage of the amount of money you save or the total money outstanding.
- During the negotiation process is on, you will have to make deposits on a regular basis into an account that is under your control but this account will be administered by an independent third party. This is to make sure that the amount that is accumulated in this account is only utilized to make the lump sum payment to your creditors.
Moreover, when the debt settlement company negotiates, they may advise you to stop making payments until the time an agreement is reached. Once it is reached, you will need to make at least one payment for your settled amount to the debt collector or the creditor. It is only then that the debt settlement company will start charging you their service fees.
The Pros and Cons
If you go through the debt settlement reviews you will come to know that a successful debt settlement is not guaranteed by any debt settlement company. It is not as simple and easy as walking away without having to pay your full debt amount. While there are a few positive sides to this process, there are also a few potential risks to it as well.
The Pros of Settling your Debts through a Debt Settlement Company Include:
- It may lower your debt amount
- Get your creditors and collector off your back and
- Help you avoid bankruptcy.
However, the Cons may Outweigh the Advantages which are:
- Your creditors may not agree to settle your debt or negotiate with your debt settlement company apart from the fact that there is no guarantee to a successful debt settlement agreement through negotiation.
- You may also end up with more debt if you stop making payments to your creditors listening to the advice of the debt settlement company. You will now have added the interest and late fees thereby increasing your debt amount even further. Moreover, you will have to pay taxes to IRS on the saved amount increasing your final payment. You may even face collection calls or a lawsuit filed by them of your creditor.
- Most of the time, you will have to pay additional fees even if the entire debt was not settled especially if you have multiple creditors. When a company settles only one of these debts, it will charge fees for it. On the other hand, if the debt settlement company manages to settle a “proportion” of the total debt enrolled with a program, it will charge you at the same proportion as its total fee.
When you stop making payment to the creditor and pay a lump sum after negotiation, both will affect your credit score.
Transferring Your Balance
The best way to prevent damaging your credit score is to transfer the balances. If you have a credit card debt, transfer all of it to a lower interest card or a new card with no APR. If you have any other debts of the smaller amount then you can wrap it all together and make it into a single loan which is a concept called debt consolidation.
Therefore, negotiate well with your creditors and make sure that the creditors charge a reasonable or no fee or percentage for the amount you transfer. Also, make sure that you are eventually not paying out more to your creditors when you transfer the balance in the form of interest payments and balance transfer fees.
If you are unsure about loan consolidation or balance transfer on your credit card you must consult with a credit counseling service but make sure that it is the nonprofit motive. It is only then you will have a low-cost or even free advice on debt management and budgeting.
Therefore, the bottom line is debt settlement companies may reduce your debt amount but there are no guarantees.