Debt settlement better than bankruptcy

Q:  Do debt settlement and/or debt negotiation work as an alternative to bankruptcy?

--Tom, Norristown, Pa.

A:  Debt settlement or debt negotiation may be a better alternative to reducing your debt load than is bankruptcy, but make no mistake about it: all can have a negative impact on your credit score for 7+ years.  But, you’re right, settlement will affect your credit score less. One major negative that’s often unknown or overlooked with settlements is that if $600 or more of a credit balance is “forgiven” then a Form 1099 will be sent to the IRS and taxes will be owed the following April 15th. 

According to the IRS, taxes on credit card debt may be forgiven under the Mortgage Forgiveness Debt Relief Act of 2007, if the “cancelled debt [was] used to buy, build or improve your principal residence or refinance debt incurred for those purposes qualifies for this exclusion.” 

A better alternative might be to contact a local agency that belongs to the National Foundation for Credit Counseling (www.nfcc.org).  This type of counseling can help you turn things around, prioritize your cash flow and make prudent financial decisions.  If your problems are serious, they will help you set up a Debt Management Plan to meet your obligations and right your financial ship. Best of luck.

Comments

[Brad]

If you go through a debt or credit counseling company it goes on your credit report. Most mortgage companies will not approve you on a loan until you are two years removed from the settlement or counseling process. People should be aware of this when considering this option.

[john w dziedzic]

i have been involved with a few places and it seems they are the only ones that benefit

[Al]

How do these differenct methods impact your security clearance?

[Daniel Taylor]

Ive never had a chapter 11 or 13 but my credit score is 590 due to a mismanaged home mgt. co while I was in Iraq. It seems thet it would have worked to my advantage to file than to spend years paying off debt ($55,000). I've payed on my home for 11 years with 6 bad months. This includes on VA payed off with no lates.

[thngsarefalling]

I also tried a debt relief agency. They collected $2800 from me and everything seemed to be working, although I was still getting harrassed by my creditors. Then I received a summons from the court that my largest creditor was going to sue me for the unpaid balance and the debt relief agency could do nothing about it. I contacted a lawyer and he suggested a Chapter 7 bankruptcy. I have filed and the discharge hearing is next month. I no longer receive harrassing letters and phone calls, and I have already received credit card offers, although I am not going to go that route again if I can help it.

[Margaret]

I would like to know how to handle debts thats over 2yrs old and has been brought by third party creditor.

[Brenda]

I went with a so-called debt settlement company..Clear Your Debt....and now we have to file bankruptcy after all.
All the company did for us was to collect 3,000.
Most all of the debt settlement companies are a major rip-offs.
Beware

[John Hartley]

I have worked in debt settlement for 6 years so I know more about it than almost anyone. There is a way to avoid taxes on forgiven debt. IRS Form 982 should be filed the same year you receive the 1099 from the creditors. As long as you are insolvent, taxes should not be a problem. Debt settlement is not for everyone, but it is perfect for those who have had a loss of income and cannot afford to continue making monthly payments on their unsecured debt.
John Hartley

[John Hall]

I graduated from law school nearly thirty years ago and have worked with bankruptcy cases ever since. This article is misleading, to say the least.
First, the conclusion that debt counseling is better than bankruptcy is simply not supported by the facts. A very high percentage of consumer bankruptcy cases involve people that had tried so-called debt management plans or debt negotiation and failed. What is unfortunate is that these same people end up having all of the debts completely discharged (in a chapter 7) or drastically reduced if subject to discharge (in a chapter 13), but they had to actually waste the time they spent on trying to work out the debts through the plan – to say nothing of the wasted payments on debts that ended up getting discharged anyway.

Secondly, negotiation doesn’t always work out so well. Usually the creditors will want way more than what the debt would be required to pay (or not pay) in a bankruptcy. Also, if a person has ten creditors and works out everything with all but one of them, that one creditor may make it so difficult for the debtor (if he doesn’t file for bankruptcy) that he will end up filing for bankruptcy anyway (just because of that one creditor).

Lastly, this idea that a negotiated plan is better for ones credit report than a bk is simply not true. Bankruptcy is of course a negative entry on a credit report when considered in and of itself, but what bankruptcy does do is discharge the debt that a person has making the debtors income to debt ratio higher, simply because there are no more debts. You could have a perfect credit score, but if you do not have good income, you are not going to be able to buy anything. On the other hand, if you have good income, despite what the creditors will say, they will find a way to give you credit for what you want and look to your wallet instead of the bk on the credit report. Creditors will do the best they can to pump up the significance of bankruptcy on a person’s credit, but that is just what they say – that is not how they decide who gets a loan or not. They denigrate this opportunity through bankruptcy to make a fresh start because bankruptcy takes their power away, and they don’t like that. If they were honest they would tell you that people with bks on their record buy houses and cars and get other things on credit all of the time.

[Tim Wilding]

Dave Ramsey's Financial Peace University is a great class to learn everything you need to know about your financial life. Many churchs host this 13 course class.
Follow his baby steps and you will be out of debt (except your house) in a year or two. We did it in 6 months by creating a monthly budget. We did it by telling our money where to go at the beginning of the month and not try to figure out where it went at the end of the month. We gave every dollar a name and that is where it went.
AWESOME program.

[David Kounter]

Many times an individual cannot afford a payment through credit counseling & it's usually much higher & a longer program than settlement.

Exa: Credit Couseling $30,000 in credit card debt. if you end up paying $38,000 total(usually more), & divide that over 48 months, your monthly payment is $826.08. If a settlment company negotiated your $30,000 in debt & only saved you $10,000, your payout would be $20,000 total. You saved $18,000 & over 36 months (one year less than cc), your monthly payment is $555.55 a month.

In reference to that $10,000 saved, let's say you had to pay $2,500 to the IRS. So what??? You still saved $16,500 & are finished a year earlier.

Also, many people are close to insolvent when they get to this stage. They should all consult a tax attorney about an IRS exemption. My understanding is that also can be forgiven.

[David]

Several years ago, I engaged in a trenedously expensive custody battle...the debt mounted quickly. I negoitated with one company...ended up owing IRS on the 1099 that was filed. I made the mistake of using one of the those Credit Negotiating companies...Emergency Debt Relief to be specific. Sold a bill of goods, after paying them over 10,000 dollars, they did nothing. Ended up filing a Chapter 13, paying IRS tax on the 1099, and lost ten thousand dollars to EDR.
My opinion, just file a Chapter 13 and get over with. After 9 months from discharge, we were able to purchase a car...next will be a house. But we do NOT keep any charge cards except one...and that is paid at the end of every month.