Increased regulation and enforcement has forced debt settlement companies to do what they promise in recent years, rather than charge people hefty upfront fees and fail to deliver any relief. However, debt settlement is not as consumer-friendly as the industry presents it, and many of the people who praise the companies and the process do not fully understand their alternatives or the long-term consequences of settling debts. A few of the minor consequences you might experience if you opt for debt settlement include: tax bills on the forgiven debt, a dip in credit scores and increased interest on new purchases.
Here are some of the biggest problems with debt settlement:
- The debt settlement process takes years. Customers are told to stop paying their credit card bills, loans and other debts and put money into a savings account, however; negotiations may take years. According to the Freedom Financial Network, the largest debt settlement company, half of all customers eventually settle at least 75 percent of their debt, but the process usually takes three to four years. In the meantime, customers risk being sued over their debts. On the other hand, Chapter 7 bankruptcy halts collections activity, including lawsuits.
- The math doesn’t add up. Debts are typically settled for 45 to 50 percent of the current balance, which is often higher than the initial balance because of late fees and interest. The average debt settlement fee is 20 percent of the debt at the time of enrollment. The amount of forgiven debt is usually reported to the IRS and is taxable as income. If the borrower is in the 25 percent federal tax bracket, the total cost of the settlement can equal 90 percent or more of the original amount owed.
- Debt settlement companies tend to demonize bankruptcy. For example, National Debt Relief, a large debt settlement company, claims on the website, “Declaring Chapter 7 bankruptcy may mean saying goodbye to most of the assets you have accumulated over the course of your life.” However, few people who file for Chapter 7, which erases most debts in three to six months, lose any assets thanks to state laws that typically protect most if not all of what filers own.
- Debt settlement companies also claim that bankruptcy is harder on credit scores. However, both processes often drop scores into the mid-500s. Credit scores can begin the recovery process immediately after either process is complete. The difference is that Chapter 7 bankruptcy typically takes only months to complete, while debt settlement typically takes years to complete.
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If you have any questions on this topic or are in financial crisis and considering filing for bankruptcy, contact an experienced Miami bankruptcy attorney who can advise you of all of your options. As an experienced CPA as well as a proven bankruptcy lawyer, Timothy Kingcade knows how to help clients take full advantage of the bankruptcy laws to protect their assets and get successful results. Since 1996 Kingcade & Garcia, P.A. has been helping people from all walks of life build a better tomorrow. Our attorneys’ help thousands of people every year take advantage of their rights under bankruptcy protection to restart, rebuild and recover. The day you hire our firm, we will contact your creditors to stop the harassment. You can also find useful consumer information on the Kingcade & Garcia website at www.miamibankruptcy.com.
