Debt settlement can help you get out of debt by reducing the amount you owe, but it’s risky and you may have other options.
Bev O'Shea
personal finance writer | MSN Money, Credit.com, Atlanta Journal-Constitution, Orlando Sentinel
Bev O'Shea is a former NerdWallet authority on consumer credit, scams and identity theft. She holds a bachelor's degree in journalism from Auburn University and a master's in education from Georgia State University. Before coming to NerdWallet, she worked for daily newspapers, MSN Money and Credit.com. Her work has appeared in The New York Times, The Washington Post, the Los Angeles Times, MarketWatch, USA Today, MSN Money and elsewhere. Twitter: @BeverlyOShea.
Lead Assigning Editor Kim Lowe
Lead Assigning Editor | Consumer lending
Kim Lowe is a lead assigning editor on NerdWallet's loans team. She covers consumer borrowing, including topics like personal loans, student loans, buy now, pay later and cash advance apps. She joined NerdWallet in 2016 after 15 years at MSN.com, where she held various content roles including editor-in-chief of the health and food sections. Kim started her career as a writer for print and web publications that covered the mortgage, supermarket and restaurant industries. Kim earned a bachelor's degree in journalism from the University of Iowa and a Master of Business Administration from the University of Washington. She works from her home near Portland, Oregon.
Fact Checked Co-written by Jackie Veling Lead Writer Jackie Veling
Lead Writer | Buy now, pay later loans, debt consolidation, personal loans
Jackie Veling covers personal loans for NerdWallet. Her work has been featured in The Associated Press, the Los Angeles Times, The Washington Post, Yahoo Finance and elsewhere. Her work has also been cited by the Harvard Kennedy School. Prior to that, she ran a freelance writing and editing business, where she partnered with a wide range of clients, including U.S. Bank and Under Armour. She graduated from Indiana University with a bachelor’s degree in journalism.
Many, or all, of the products featured on this page are from our advertising partners who compensate us when you take certain actions on our website or click to take an action on their website. However, this does not influence our evaluations. Our opinions are our own. Here is a list of our partners and here's how we make money.
Table of Contents
MORE LIKE THIS Paying Off Debt Personal Loans LoansTable of Contents
MORE LIKE THIS Paying Off Debt Personal Loans LoansDebt can be overwhelming, especially if it feels out of control. Maybe you owe more than you think you could ever repay, or your debts are past-due in collections.
Debt settlement may seem like a lifeline in these circumstances, but it’s risky, since it damages your credit, includes costly fees and can take years to complete.
Learn how debt settlement works and compare it with other debt payoff strategies, like credit counseling and debt consolidation.
Debt settlement is the process of negotiating down a debt to a lower amount than you owe and is usually done with the help of a third party, like a debt settlement company.
Once the creditor accepts the settlement, it can’t continue to hound you for the money, and you don’t have to worry that you could get sued over that particular debt.
Debt settlement gives you a plan for becoming debt-free, which can be a huge relief, but the process can take up to three to four years, and it isn’t always successful.
Our Debt Relief PartnersAccredited Debt Relief
Accredited Debt Relief Nerdwallet partners with Accredited Debt Relief to provide customers with over $20,000 in credit card debt with settlement options to help them become debt free in 2-4 years by significantly reducing your monthly payment.
on Accredited Debt Relief
Freedom Debt Relief
Freedom Debt Relief Nerdwallet partners with Freedom Debt Relief to provide customers with over $7,500 in unsecured debt with settlement options to reduce credit card debt, get one affordable monthly payment, and resolve their debt in as little as 24-48 months.
on Freedom Debt Relief
National Debt Relief
National Debt Relief Nerdwallet partners with National Debt Relief to provide customers with over $7,500 in unsecured debt with settlement options to help them become debt free in 2-4 years with a total average savings of 23% after fees.
on National Debt Relief
Debt settlement companies negotiate with creditors on your behalf to reduce the amount you owe on unsecured debt like credit cards, medical bills or personal loans. Debt settlement is not an option for secured debt, like a mortgage or auto loan.
These offers are only enticing to creditors if it seems like you won’t pay at all, so a debt settlement company will advise you to stop making payments on your debts immediately and instead open an escrow account and put a monthly payment there. Once you have enough money saved for a lump-sum offer, the settlement company facilitates the transaction.
Debt settlement isn’t free. Most companies charge a fee of 15% to 25% of the amount you owe. For example, if you owe $10,000, and the debt settlement company charges a fee of 25%, you’ll pay $2,500 once the settlement is complete (in addition to paying the settled amount to your creditor). A debt settlement company cannot collect this fee until it settles your debt.
The Consumer Financial Protection Bureau cautions consumers about debt settlement [0]
Consumer Financial Protection Bureau . What Is a Debt Relief Program and How Do I Know if I Should Use One?. Accessed May 3, 2024.
. Dealing with these companies is risky, the CFPB says, and other options should be considered (more on those lower down). Consider these risks before you make a decision.
Your credit may take a hit: If you’re not already delinquent on your accounts, you will be once you divert debt payments toward the settlement account. Delinquent accounts and debt charged off by lenders stays on your credit report for seven years.
Penalties and interest accrue: When you stop making payments on your debts, you’ll likely face financial penalties like late fees. You may also accrue interest, increasing the overall amount you owe.
You’ll have to pay a fee when a debt settles: Most debt settlement companies charge a percentage of each debt they settle, based on that debt’s balance when you enrolled in the program. Some charge a percentage of the debt eliminated by the settlement.
You may pay other fees: In addition to the settlement fee, customers may have to pay other fees, such as a setup fee to open the dedicated escrow account and a monthly fee to maintain the account.
Forgiven debt may be taxable: The Internal Revenue Service generally regards forgiven debt as income. You may want to consult a tax professional about additional tax obligations you’ll be taking on if you settle your debt.
There’s no guarantee of success: Debt settlement doesn’t always work. Not all creditors work with debt settlement companies, and even if they do, they may not accept the settlement offer. Depending on how long settlement takes, the fees and interest that accrue in the meantime may wipe out any potential savings.
Summary: The risks of debt settlement
Debt settlement will likely hurt your credit score. You may rack up fees and interest on debts until they’re settled, which can take years. You’ll pay fees to the debt settlement company. Any forgiven debt is usually taxable. Not all creditors work with debt settlement companies or accept settlement offers.Debt settlement can negatively impact your credit in several ways.
Missed payments to your creditors — which most debt settlement companies advise — will likely be reported to the credit bureaus. If you become significantly delinquent, you may be sent to a collections department or agency, which can further hurt your credit score.
Any settled debts ding your credit, since the creditor accepted less than what was owed.
These marks can stay on your credit report for up to seven years.
However, paying something is better than paying nothing at all. If the choice is between not addressing your debt or settling it, debt settlement may be the better option.
Not all debt settlement companies are reputable. Stay away from any company that tries to collect an upfront settlement fee or guarantees it can make your debts go away for “pennies on the dollar” or a promised reduction amount, says the CFPB.
Debt settlement companies shouldn’t advise you to stop communicating with your creditors. Until the debt is settled, settlement companies can’t stop debt collection calls or lawsuits.
Research any debt settlement company you’re considering. Check with the Better Business Bureau to see if there’s a history of complaints. Prioritize reputable companies that hold outside accreditations, such as from the American Association for Debt Resolution .
Finally, companies should be upfront about fees, terms of service, how long it will take to settle your debts and how much money you need to save before the company makes a settlement offer, according to the Federal Trade Commission [0]
Federal Trade Commission . How to Get Out of Debt. Accessed May 3, 2024.You can try negotiating a settlement yourself , which saves money on fees and may help you get out of debt faster since you control the timeline.
Gather as much money as you can to make a lump-sum offer. This may mean taking a part-time job, selling valuable belongings or other quick ways to get cash .
Though some creditors may be likelier to take a lump-sum offer, which gives them money immediately rather than taking a chance on payments that might not come, other creditors may have a policy against settling debts.
Debt settlement isn’t the only way to get relief from overwhelming debt. Working with a reputable, nonprofit credit counseling agency is a safer alternative if you have credit card debt. Credit counselors can help you enroll in a debt management plan , which combines your credit card payments into a single payment with lower interest and gives you a plan to pay off the debt in three to five years. These plans typically come with a one-time setup fee and a small monthly service fee.
Another option is to take out a debt consolidation loan from an online lender or credit union and use the money from the loan to pay off all your debts at once. You then repay the loan at a fixed rate over a set term, usually two to seven years. These loans make the most sense if you can qualify for a lower rate than the average rate across your existing debts.
Finally, bankruptcy may be an option, particularly if your debt exceeds 40% of your income and you don’t have a plan to pay it off. Consulting a bankruptcy attorney is usually free, though you’ll pay legal and filing fees if you choose this route.
About the authorsYou’re following Bev O'Shea
Visit your My NerdWallet Settings page to see all the writers you're following.
Bev O'Shea is a freelance writer and a former NerdWallet staff member who specializes in consumer credit, scams and identity theft. Her work has appeared in The New York Times, The Washington Post, MarketWatch and elsewhere. See full bio.
You’re following Jackie Veling
Visit your My NerdWallet Settings page to see all the writers you're following.
Jackie Veling covers personal loans for NerdWallet. Her work has been featured in The Associated Press, the Los Angeles Times and The Washington Post. See full bio.
On a similar note.
Download the app
Disclaimer: NerdWallet strives to keep its information accurate and up to date. This information may be different than what you see when you visit a financial institution, service provider or specific product's site. All financial products, shopping products and services are presented without warranty. When evaluating offers, please review the financial institution's Terms and Conditions. Pre-qualified offers are not binding. If you find discrepancies with your credit score or information from your credit report, please contact TransUnion® directly.
NerdUp by NerdWallet credit card: NerdWallet is not a bank. Bank services provided by Evolve Bank & Trust, member FDIC. The NerdUp by NerdWallet Credit Card is issued by Evolve Bank & Trust pursuant to a license from MasterCard International Inc.
Impact on your credit may vary, as credit scores are independently determined by credit bureaus based on a number of factors including the financial decisions you make with other financial services organizations.
NerdWallet Compare, Inc. NMLS ID# 1617539
California: California Finance Lender loans arranged pursuant to Department of Financial Protection and Innovation Finance Lenders License #60DBO-74812
Insurance Services offered through NerdWallet Insurance Services, Inc. (CA resident license no.OK92033) Insurance Licenses
NerdWallet™ | 55 Hawthorne St. - 10th Floor, San Francisco, CA 94105
