When owing a large sum of money, people look for solutions that can help them work through the debt they owe. One option that people may investigate is a debt settlement service.
One point of confusion that some people have is they will conflate debt settlement with bankruptcy. Bankruptcy is the legal process of having some of your debt discharged. Debt settlement, on the other hand, may reduce the amount you owe, but does not necessarily discharge the debt you owe.
There are a couple of reasons why people are drawn to the idea of debt settlement. It can have a less negative impact on people’s credit in the short term. Additionally, the negative stigma some people have toward bankruptcy can cause some people to view it as an absolute last resort.
However, debt settlement does not always work out as well as you may think. This can result in some consequences that you need to be aware of.
Negotiation is easier said than done
Whereas bankruptcy can help get moving forward with debt relief relatively quickly, debt settlement is not always a quick process. When you negotiate with a debt settlement company to reduce your debt, those talks could take several years before you reach a final agreement. During that time, collection agencies may harass you. In rare circumstances, you could face a lawsuit.
High fees negate potential savings
One appeal of debt settlement is that it is believed that it will reduce your monthly fees. That may be true, but it there is no guarantee that will be the case for you. Debt settlement services charge high fees that could negate any savings you may experience.
To make matters worse, the IRS typically treats the amount of settled debt as taxable income. If you are in the 25% tax bracket and have $25,000 of debt settled, you will still owe $6,250 in taxes when you file next year.
This does not mean that there are no situations when debt settlement may be a viable option. However, you should know the costs before entering into a settlement agreement. This will help you determine whether declaring bankruptcy or using a debt settlement service is the better option for you.