Advantages and Disadvantages of Debt Settlement

A debt settlement can be your way out of debt. But, it can also cause you more financial harm than good if you don’t know exactly. What you’re getting yourself into.

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Many households around the globe are struggling with debt. A debt settlement can be their way out. But, in order to know if it will work for you, you need to know its advantages and disadvantages.

1. What Is Debt Settlement and How Does It Work

A debt settlement is also known as debt relief or debt adjustment. It involves a third party with which your debt is settled. For less than what you currently owe, with the promise that you’ll pay the amount settled for in full.

A third-party company or sometimes a lawyer gets to negotiate your debt with the lender. Keep in mind that even if your debt is settle for less, you have an additional cost of paying for these services. Either in the form of a flat fee or percentage. As the third party negotiates your debt, you get to start making payments to your debt repayment company. Lower monthly payment, or a debt discharge. You need to choose if you will agree to the new terms for the settlement to move forward. Depending on how the debt was settled, you’ll make payments to the company.

2. Advantages and Disadvantages of Debt Settlement

The obvious advantage of a debt settlement is that it is the only way you can reduce the total amount of debt. This can also mean you will be debt-free much faster.

But, debt settlements also come with their fair share of risks.

Not every loan can be settled

Debt settlement is a good option for unsecured debts such as credit card debts, medical bills, and personal loans. However, secured debts such as mortgages and auto loans cannot be settled.

You could hurt your credit score

Some companies will request that you stop paying your creditor directly and instead pay them until they’ve reached a settlement. This way, you risk falling behind on payments, and your credit score could plummet as a consequence.

You could end up paying more in the end due to fees

Third-party debt settlement professionals usually charge between 15 percent and 25 percent of the debt. That gets resolved, not on the negotiated amount.

It’s not as quick as you think

Coming to a resolution can take time. It’s not unusual for the process to last three to four years.

The forgiven debt is taxable

Although you could end up reducing your debt, the forgiven amount of the debt puts you on the IRS radar. And you may have to pay taxes on the difference between what you owe and what you will be paying back.

You need cash and plenty of it

The whole concept of a settlement is that you will pay the settlement immediately.

3. Tips for Avoiding Getting Into Debt

The best way to avoid financial anxiety is to avoid getting into debt at all. In order to do it, you need to adopt healthy financial habits. That will not only keep you out of debt but will also help you build a solid base for future wealth.

Save money in any way you can

One way to avoid getting into debt is to learn to save money in any way you possibly can. For instance, when signing up for a new utility provider you can search for a light company with no deposit.  Wealthy people know that a penny saved is a penny earned.

Compare prices before making purchases

From your utility and internet providers, all the way to any purchase you make do your research first to ensure you are paying the lowest price. The Internet makes it too easy to compare prices so there’s no excuse for not doing it.

Do not spend more than you earn

Credit cards and ‘buy now, pay later’ policies give the illusion that we dispose of with more money than we actually earn. This is a recipe for unhealthy finances which all end up with debt. As hard as it might seem at first, the more you are able to cut your wants. The better your finances will be.

TakeawayAs with everything in life, you need to know what you are getting yourself into by entering into a debt settlement. As long as you studied the advantages and disadvantages carefully. You will know with certainty if this is your best way out of debt.