Q. We are struggling financially. Our situation isn’t desperate but it is stressful. I heard an ad on the radio about a company that can make arrangements so we only have to pay 50% of our debts. This would be a very helpful if it is true. Is this a good option?

A. What you are referring to is debt settlement. In this kind of agreement, a company promises to reduce your debt by 50% by offering your creditors settlements. It sounds promising but the results are often not what you expect them to be.  Here’s how the debt settlement process works.

When you sign up for a debt settlement service, you send monthly payments to the debt settlement company, but they do not forward your payments to your creditors. Instead, they hold your money in an account until you have enough money to offer a single creditor a settlement. Depending on the size of your debts, it can take months for just one creditor to be offered a settlement.

Because your creditors are not being paid monthly, you go further delinquent. And because they are not receiving payments, your creditors will charge you late fees and interest, consequently raising your balance. In the meantime, your credit report is negatively impacted when you do not make monthly payments. 

Once you have enough money to make a settlement, the debt settlement company pays one creditor. Even after this one creditor gets paid, however, you will still suffer the ripple effects of debt settlement. You will pay a fee to the debt settlement company to settle with creditor, but then the IRS will tax you on the amount of forgiven debt. The payment will show up on your credit report as a settlement, which negatively influences your credit score. And to make matters worse, your other creditors who have not received any payments may opt to sue you since you have not paid them. Also, your creditors do not have to agree to accept a settlement. 

On October 12, 2017, the Consumer Financial Protection Bureau (CFPB) filed suit against two companies offering settlement services. The companies were operating under the name FDAA. The CFPB alleges that the companies violated the law by falsely promising to eliminate consumers’ debts and improve their credit scores. According to the CFPB, FDAA and it owners lied to financially vulnerable consumer. They deceived consumers about their affiliation with the federal government. They deceived consumers about the companies’ debt relief and credit repair abilities. They failed to make proper disclosures about not paying debts and they took illegal advance fees for their services. 

In my experience it is rare that debt settlement services help consumers. If you are looking for reliable options to help reduce your financial stress I suggest you contact a non-profit accredited credit counseling agency.

Bonnie Spain is the Executive Director of Rushmore Consumer Credit Resource Center and its divisions, Consumer Credit Counseling Service of the Black Hills and the American Center for Credit Education. For more information, email acce@acce-online.com.

The material in this transmission is provided for personal, non-commercial, educational, and informational purposes only. ACCE makes no representations or warranties with respect to the accuracy or completeness of the contents of this transmission and assumes no responsibility for errors, inaccuracies, omissions, or any inconsistency herein. You should consult a professional where appropriate.