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What is debt settlement?

Posted at 11:22 AM, Feb 20, 2018
and last updated 2018-11-21 17:46:41-05

This article is written by Peters and Associates.


Debt settlement is one of the three major forms of personal-debt relief. The other two are debt consolidation and bankruptcy.

Debt settlement is when a debtor and a creditor agree on a reduced amount to negotiate the original amount owed. This may sound like the ideal solution for anyone stuck in debt and, in some cases, it may be the best available option. However, debt relief processes are rarely — if ever — a simple task.

Unfortunately, most debt-relief information on the Internet is riddled with general misconceptions, conflicting information and unreliable sources. Debt-settlement information is some of the worst, with a lot of information steering the consumer back toward debt consolidation or counseling instead.

What is the difference between debt settlement and debt consolidation?

Debt settlement

This process eliminates your debt by working with your creditors or collectors, one-at-a-time, to forgive the balance you owe by taking a smaller payoff instead. Settlements vary, but most people can get out of debt for 20 to 40 percent of what they owe, saving them 60 to 80 percent.

Debt consolidation

A debtor can take out a single large loan to pay off multiple smaller ones. The main problem with this option is you will generally pay more than you originally owed in the first place. Banks love this. They get paid back (in full plus interest) and keep you saddled with debt longer.

What are the advantages to debt settlement?

The two biggest advantages are being able to get out of the debt for less money than originally owed, and doing so without filing a bankruptcy. Other advantages include:

•Repaying debt in less time than had they not settled

• Debtors with multiple debts can choose which accounts to settle and which not to (as opposed to bankruptcy, where all outstanding debts must be included in the filing)

•Advance protection from creditor lawsuits (when a proper settlement is executed, creditors cannot sue on the account)

•Creditor calls must stop once a settlement is completed

Why would a creditor allow a debtor to settle?

On the creditor side, accepting a small payoff now is better than potentially getting nothing in the future. In other words, a settlement pays the creditor something whereas if the debtor files bankruptcy (Chapter 7) the creditor gets nothing. Just like settling a lawsuit out of court, you can settle your debt before anyone ever sues you. In fact, most creditors would rather settle than sue you. The primary reason for this is that debt-based lawsuits often result in the debtor filing a bankruptcy.

Can you settle debt yourself?

It’s possible to settle your own debt. It’s also possible to replace your own water heater when it breaks, or do your own taxes. But like filing taxes, settlements can get complicated, and if they’re done wrong, you’ll likely overpay. In a worst-case scenario, when the wording in the settlement offer isn’t right, you may wind up making a payment toward the total debt, only to be sued for the remaining balance later.

A good law firm will shield clients from most creditor calls, leverage the firm’s bankruptcy filing record to get better settlements, and work with clients to rebuild their credit once the settlement process is over.

Beware of debt-settlement scams

Most scams involve signing up for debt-relief services via phone or on the Internet. The con artists take the client’s money, but never do any work. This leaves the debtor with less money than he or she originally had, but more debt than the original balance.

There are so many debt-settlement phone/Internet cons that the Federal Trade Commission put rules in place prohibiting debt-relief agencies that operate online or over the phone from accepting upfront fees. If you’re considering any form of debt relief (including debt settlement), be wary of any debt-settlement company that doesn’t have a permanent location you can visit in person.


If you have a question you’d like to see answered by an attorney in a future issue, please write to questions@PandALawFirm.com or visit PandaLawFirm.com.

Please note: The information in this column is intended for general purposes only and is not to be considered legal or professional advice of any kind. You should seek advice that is specific to your problem before taking or refraining from any action and should not rely on the information in this column.

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