A debt settlement refers to making a lump sum payment to cover a portion of your debt, and having the creditor or collection agency clear the remaining balance. This is sometimes referred to as “paying cents on the dollar”. For example, “paying 50 cents on the dollar” would mean that you paid only half of the balance to clear your debt.

How it works

A debt settlement arrangement is most likely to be offered to you shortly after a past due account is sent to collections. The collection agency will try to get the debt cleared up as quickly as possible by providing you an incentive to give them a lump sum payment within the next few days. For example, if you owe a debt of $5000, the collection agency might offer you a “settlement” of only $3000 to clear the debt in full. However, you would need to pay the entire $3000 within the next few days. Although this type of arrangement is much more likely to be offered once your debt has already been sent to a collection agency, there are situations where your original creditor will agree to a debt settlement arrangement.

A debt settlement can be an ideal answer to your debt problems if you can easily access the funds, or borrow with LOW to no interest charges from family, friends or a financial institution. However, if it requires you to take out a loan at a high interest rate, such as a payday loan, you may end up paying back even more than the original balance in the long run. Therefore, proceed with caution before accepting a settlement offer if it requires you to take out a loan.

Debt settlement companies

Some companies may offer to make settlement arrangements with your creditors on your behalf for a fee. These companies are known as “Debt Settlement Companies” and are usually for-profit. A professional debt settlement company may be able to negotiate lower settlement offers on your behalf, however there are no guarantees.

Some debt settlement companies may ask you to make monthly payments to them instead of your creditors, and then let your payments accumulate over time until they have enough funds to offer lump sum payments to your creditors. There can be several potential downsides to going through this type of arrangement. Before paying costly fees for services offered by a debt settlement company, there are several points you should consider:

• A debt settlement company may wait months before sending your payments to the creditors
• Your creditors are under no obligation to work with debt settlement companies, and do not have to agree to their settlement offers
• Any good standing you have with your creditors will likely be diminished after months of non-payment, and may even put you at risk of legal action
• A debt settlement company cannot stop your creditors from taking legal action against you, such as wage garnishments or seizing of assets
• Many debt settlement companies will take their fees upfront, and will still charge you these fees even if they are unable to get the settlements you wanted
• The fees associated with a for-profit debt settlement company can be much higher than those charged by other debt solution organizations
• There is nothing stopping you from contacting your creditors yourself and offering settlements comparable to those offered by a debt settlement company
• There are some non-profit Credit Counselling agencies that will provide this service for much lower fees, although this is usually done on a case-by-case basis

Before signing any agreements with a debt settlement company, be sure to read all documents carefully. Do not feel pressured to sign anything right away. Take some time to look up any reviews about the company posted online, and check the Better Business Bureau’s website to see if there have been any unresolved complaints.

Start

How to complete a debt settlement on your own

If a settlement sounds appealing to you, you can try contacting the creditor or collection agency holding your debt first to negotiate a reasonable amount. When doing a debt settlement directly with the creditor or collection agency, be sure to follow these three steps:

1. Get the settlement offer in writing before making the payment. If the creditor or collector is not willing to provide the settlement offer in writing, do not proceed
2. Send the payment by traceable means only (NO CASH!). Keep a receipt of the payment for your records.
3. Get a written letter from the collection agency or creditor CONFIRMING that the debt has been completely cleared and that you no longer owe any funds. Otherwise you may be surprised years later to find out that a remaining balance is still owing.

Once you receive a letter from the creditor/collection agency confirming that the debt has been settled, you should pull your credit report after 30 days to ensure that the debt is reflecting a status of “Settled”, as opposed to “Unpaid”.

Impact on credit report

Be aware that any debt paid through a settlement will likely be reported as an “R9 - Settled” on your credit bureau reports, as opposed to “Paid in full". This applies whether the settlement was done through a for-profit debt settlement company or on your own directly with the creditor. The “Settled” status will stay on your credit report for six years after your payment is processed, and may be seen as derogatory when applying for credit in the future, because creditors will be able to tell that you did not pay the debt in full. Therefore, doing a settlement may not be a good option if you are looking for long- term credit repair. After doing a settlement, your credit score will also likely go down as you did not pay the debt in full. If you want to rebuild your credit, then paying back the entire debt in full is your best option.

Advantages	Disadvantages
save money off the entire balance of your debt can reduce your debts by large amounts arrangements with the creditors and collectors can be made on your own	fees can be costly if done through a for-profit debt settlement company creditors don’t have to agree to settlement offers negative impact on credit rating and credit score