Erasing or deleting debtDebt settlement is one of the most dangerous forms of debt relief. Commonly touted by debt settlement companies as a way to clear off your debt for less than you owe within a short period, it’s not as straightforward as it seems.

Debt settlement companies will negotiate with your creditors on your behalf to convince them to accept only a small portion of your debt while writing the rest off as bad debt. However, creditors are under no obligation to agree. Even if they do, your credit can still be impacted by a debt settlement. That’s why we’ll explore things debt settlement companies won’t tell you, so you know exactly what you’re getting into.

You’ll need a stomach of steel to work with us.

Debt settlement is a high-risk debt relief strategy. The debt settlement company will advise you to stop making monthly payments. Consequently, your debt goes into default. Instead of paying your creditors, you accumulate the monthly payments into an escrow account. Once you’ve saved up an amount your creditor is likely to accept, the company approaches them.

The goal of stopping monthly payments is to convince your lenders that you do not have the money to pay. This means you’re at the risk of going bankrupt. If that happens, most of your unsecured debts will be discharged. Debt settlement companies use that fact to nudge creditors into accepting a lump sum that’s lower than what you owe.

But while you stop making payments, get ready to be bombarded with collection calls. Similarly, brace yourself for added late penalties and a possible increase in interest rates. If your settlement plant doesn’t work, you’ll have to deal with all of these.

We won’t save your credit.

As you miss out on monthly payments, your credit score will continue to take a hit. And even if negotiation is successful, your account status will be noted as “settled in full” rather than “paid in full.” This stays on your credit report for seven years after the discharge. Because your credit history is an important part of your credit score calculation, debt settlement will damage your score.

If you currently have a bad credit score, there’s less risk to using debt settlement. But if your credit score is good, then brace yourself for a significant dip in your score.

You won’t have to pay fees until your debts are settled

In 2010, the Federal Trade Commission made it illegal for for-profit debt settlement companies to charge an upfront fee. They can only receive a payment if they’re successful in helping you settle your debts.

As we’ve mentioned, you’d have to make payments in an escrow account while you stop paying your creditors. This money is usually held with a third-party and not the debt settlement firm. You can only be charged for each of the debts they eventually negotiate successfully.

We might not settle all your debt

If you’re seriously considering debt settlement, chances are you have multiple creditors to deal with. The debt settlement company will help you negotiate with your creditors. But what you might not know is that they can only negotiate unsecured debts like credit cards, medical bills, and unsecured personal loans. They typically don’t deal with secured debt like mortgage or auto loans. Secured debts cannot be discharged – not even by bankruptcy.

You might end up bankrupt!

Most people turn to debt settlement companies in hopes of evading bankruptcy. Debt settlement firms tout their services as a less traumatic option to bankruptcy. However, it’s not certain you won’t end up in bankruptcy. For one, your creditors are not obliged to either negotiate or come to an agreement with these firms.

Even if a debt settlement company can negotiate some of your debt, you’d still have other unresolved debts you’ve massively defaulted on. If the creditors of those debts sue you, you might have to file for bankruptcy. But that’s after you’ve paid the debt settlement company for the debts they helped you settle.

Debt settlement is an expensive option.

Compared with other debt-relief options, debt settlement is arguably the most expensive. Debt settlement companies will charge a certain percent of your debt in fees. This means you pay more depending on how much you owe.

Imagine you owe $12,000 in credit card debt, and the debt settlement can negotiate you pay only $5,000. If they charge 20% for their service, then you have to pay them $2,400 in fees (20% of 12,000). On the other hand, debt management programs are capped at $79 per month, and the average user pays $40.

The forgiven debt may be taxable

Let’s extend our previous example. At the end of the day, you have to pay $7,400 ($5,000+ $2,400) instead of $12,000. This equals a savings of $4,600. But that’s not all! The Internal Revenue Service generally regard forgiven debt as income. You might still have to pay tax on that $4,600.

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