American debt is on the rise — up to $38,000 per person in 2018 from $37,000 the previous year. That number doesn’t include mortgages, but it does account for things like credit cards, personal loans, student loans and auto loans.
Many people find even minimum payments debilitating, and some people turn to debt settlement to get relief. Here you will learn:
- How debt settlement works.
- What percentage of debt is typically accepted in a settlement.
- How a debt relief program affects your credit.
- How long a debt settlement stays on your credit report.
How does debt settlement work?
Debt settlement is also called debt relief, and it’s basically hiring a company to negotiate a lower debt on your behalf. Though you may end up paying less to the original creditor than you initially owed, debt relief comes with downsides as well.
Debt settlement can hurt your credit. Because you essentially stop making payments on your balances and instead put your money into a savings account that the debt relief company uses to negotiate a lump-sum payment with your creditor, your payment history will take a hit and your credit score will fall.
It doesn’t happen overnight and there are no guarantees. A creditor doesn’t have to settle a debt, and a lot of time can pass before you have an answer. In fact, you can expect it to take at least three years for a settlement to be reached. That whole time you will be missing monthly payments and saving for your lump-sum payment.
You will have to pay the debt settlement company. Once the settlement company reaches an agreement with your creditor, you will have to pay the company. Typically it will charge youa percentage of the starting debt amount. This can be up to 25%, so be sure to understand those details before you enroll in a program.
You may have to pay taxes on cancelled debt. Since you didn’t end up paying back the money you borrowed (and spent), the IRS often treats that amount as income.
What percentage of debt is typically accepted in a settlement?
The exact amount varies by person, but, in many cases, you could have 30%-70% of your negotiated debt forgiven.
How does a debt relief program affect your credit?
Enrolling in a debt relief program comes with serious consequences for your credit. All the payments you miss while the debt relief agency is negotiating on your behalf will show up as individual negative entries on your credit report.
A settled account will be marked as such. That also damages your credit score — though it’s potentially better than an unpaid, delinquent account. The upside there is that it could eventually help reopen the door to future financing opportunities, since many lenders require that you pay delinquent accounts before qualifying you for loans like a mortgage.
How long does debt settlement stay on your credit report?
Settled debt will remain on your credit report for seven years from the date the debt is settled. If you had late payments attached to your account, those will stay on your report for seven years from the time of the initial delinquency.
Debt settlement may be a good option in some cases, but it comes with serious consequences for your money and your credit. Weigh the pros and cons before taking any steps toward debt relief.
