When you stop paying the monthly installments, the minimum installments, of the creditor, the credit keeps adding up, that results in late fee and on-going interest. When this balance increases, the debtor looks to enter into a debt settlement either through a lawyer or through the debt settlement companies.
The settlement companies may charge a monthly fee or an upfront fee for the debt settlement solutions. There are companies which only charge once the settlement has been reached and there are no upfront or monthly payments. They only charge a percentage of the total outstanding amount for that purpose.
The banks tend to enter into a debt settlement arrangement because they do not want the creditor to file under Chapter 7 for bankruptcy. If the creditor files for that, the bank will not get anything at all. So the banks have even created debt settlement department to make better negotiations. Normally the settlement results in between 25-65% of the outstanding amount.
The debt settlement company negotiates on the behalf of the borrower. The company makes settlement on the stipulation that the borrower will pay the monthly installments regularly if the outstanding debt amount is levied. Such settlements are only made on the credit card debts and not on other kind of loans and debts like student loan, mortgages or auto financing.
The debt settlement actually helps both the creditor and the borrower in a way. The creditor gets the borrower’s trust back and knows that he will now make regular payments. The borrower avoids the court procedure of bankruptcy.
Debt settlement is not a great thing, it works but it has its disadvantages as well. The major problem with it is that it will lower your credit score with FICO and you will be on record for the debt settlement. There will also be a constant danger of lawsuit against the borrower if he makes any further default.
Remember that you must have the funds before entering into any sort of negotiations. If there is a chance that your status fails to show that you can arrange these funds, you would not be considered for the process. So it is important to have funds before negotiations to complete the process successfully.
You also get to write off the canceled amount in the tax return form. The IRS permits you this and you can benefit from it. But the consumer has to report the canceled debt to the IRS. Usually you are given relief in such cases and you do not have to actually pay the taxes in such cases but there are cases when you will have to pay the amount. When you are under heavy or multiple debts, then you may not get this concession.