It is true. Debt can be”negotiated” allowing a debtor to pay less than what is owed to a creditor.
However, there is no Federal or Arizona state law that forces a non-tax related creditor to take less than what they are owed outside of the bankruptcy context.
Unfortunately, the belief that this may be true is being trumpeted by certain debt negotiation “professionals” on radio and TV.
This “pitch” may sound very appealing at first listen. To the honest debtor, with a sincere desire to pay back debt, these claims may sound like a godsend.
The key phrase to remember however is, “if it sounds too good to be true, it usually is”.
For those with a serious credit card, medical bill, or business related debt who are trying to avoid bankruptcy or who have been told they don’t qualify for a chapter 7 and are trying to compare chapter 13 to negotiating debt, I am providing the following shortlist of debt negotiation pros and cons.
Debt Negotiation Pros
1. Debt is reduced – If you are able to negotiate successfully with the creditor, the amount you pay will be less than the amount you originally owe.
2. Budget – Putting together the funds to make reasonable offers to settle may require that you live on a stricter budget than you may be used to. Good practice for avoiding debt in the future.
3. Simpler – Compared to filing a bankruptcy, saving money and settling with a creditor could be simpler.
Debt Negotiation Cons
1. Creditor Calls
If you begin to make payments monthly to a “debt settlement professional” you will likely continue to get collection calls. There is no legal method that prevents an original creditor from contacting a debtor except the automatic stay relief of a bankruptcy petition in Arizona.
Just because someone promises that the original creditors won’t call, doesn’t mean they won’t. Third-party collectors are controlled by the Federal Fair Debt Collection Practices Act and can be stopped, by writing a short letter asking them to. You don’t need to hire someone to do that.
2. Credit Report
Most debtors do not have the funds handy to settle the debt with. This means that they must stop paying creditors in order to save the money necessary to settle and to convince the creditor that they are a “hardship” case that should be considered for settlement. While the money is being saved, the credit score is dropping.
3. Forgiven debt is taxable
Unless you fall under the IRS “insolvency” exception, you will have to treat the forgiven portion of the debt as income on your tax return. (Bankruptcy is the other exception).
4. No guarantee
If someone guarantees you a result, run…fast.
I have reviewed dozens of the contracts used by debt negotiation “professionals”. Most require the following be paid:
a. a”set up” fee b. a monthly fee
c. a percentage of either the total debt or the amount saved.
For a debtor with $100,000 in debt who settles the debt for 50%, or $50,000, the overall fee is usually $12,000 to $20,000.
The problem with the amount of the fee is that the company is probably being paid in the high hundreds if not a thousand + per hour worked.
In essence, payment is being made to set up an accounting system to collect and track the money. When the estimated amount for the fee and the estimated amount needed to settle are paid, some phone calls are made.
If a lawsuit is filed in the meantime, the fee is often considered “earned”, and the debt remains.
6. 4 out of 6 isn’t bad, right? OR Getting sued anyway
Monthly payments to the “debt negotiation professional” do not stop the clock from ticking, nor does it stop the creditor's litigation timeline. There is no “secret word” that the “professional” uses to magically stop the collection.
Many people with serious debt learn this the hard way. They struggle to come up with funds to make the monthly payments. In the meantime, other accounts are moving forward and reach the lawsuit stage before enough money is saved to make an offer.
The lawsuit is filed, the debtor loses and garnishment begins. The debtor is now out of money and ends up in bankruptcy anyway.
7. Lack of Legal Representation
Lawyers have developed a bad reputation. Some of it earned.
Despite this, most lawyers I know are honest, ethical and they know their stuff.
They are able to compare legal remedies and non-legal remedies and then spot the problems as they may arise with each in relation to your particular set of facts. They have been trained to do this. Non-lawyers haven’t.
A non-lawyer can’t represent you if the legal remedy is the better option either.
Not only is the lawyer trained to handle legal matters and can actually litigate a case for a client, but he or she is also probably far less expensive in this field as well.
8. You can probably do it on your own
You can probably do on your own what most “debt negotiation professionals” are able to do for you.
If you want to try to do better, you will need to be a good candidate for bankruptcy and the creditor must believe that to be true. You must also have the cash in your hand when you make the settlement offer.
If these things aren’t true, you are simply relying on the “good graces” of the creditor to determine the amount of settlement.
My suggestion to those with serious consumer debt? Contact your local, experienced bankruptcy attorney. Ask him or her to compare bankruptcy to debt negotiation based on your individual facts.