It almost sounds unbelievable what a debt settlement company can do for you. They are essentially making it possible for you to legally get away with paying your creditors less money than what is owed. So, how do debt settlement companies work to make this happen?

Well, Debt settlement companies work as negotiators or middlemen. They assess your financial situation and then set a plan in motion. This usually involves signing an agreement and creating an account where you will start depositing money instead of paying creditors.

Once there are sufficient funds, the company applies various negotiation and pressure tactics to make the creditors settle on that amount instead of the greater sum you owe them.

However, this is a rough estimation of how debt settlement companies function. There are various other factors and intricate inner workings at play here. Learn more from the following discussion.

How Do Debt Settlement Companies Settle Debts?

A debt settlement aims to make both parties win. The client wins since they can unburden themselves of crushing debt at a lower cost. Meanwhile, the lenders are better off as they can recover at least a portion of their loan than getting nothing at all.

Here's a step-by-step account of the process-

Step 1: Is The Debtor Eligible?

The company starts by ensuring you're actually eligible for debt settlement.

These companies have legal authorities to answer to. So, helping a financially capable individual get away with not paying their debts will put the company's legal compliance in question. Plus, it will hurt their reputation and affect their future business.

So, when you approach the company, the first thing they require will be detailed documentation of all your income and expenses. These include all types of financial statements, tax returns, pay stubs, etc. You will also provide them with a list of current expenses, like house rent, grocery bills, medical expenses, and so forth.

Apart from these, you will also supply the most obvious- an overview of your total debt situation. This requires you to disclose credit card bills, personal loans, hospital bills, and other outstanding debts.

It's also in your best interest to provide the company with anything that proves you are in financial hardship. For instance, recently getting fired from a job, delinquent accounts, or a medical emergency. These will help the company build a stronger case before the creditors.

Finally, the company will analyze this information to confirm your eligibility. It will also help them determine the debt-to-income ratio. This will tell them whether you can afford the debt settlement in the current situation.

They would then go forward with a settlement strategy and tell you how much you need to save before beginning negotiations.

Step 2: Signing The Agreement

You will enroll in the company's debt settlement program by signing an agreement. This legal document usually includes three things. Firstly, it will state the original debt versus the settlement amount. Secondly, there will be various terms and clauses related to payment and credit reporting.

In addition, most agreements also outline the company's services too. There might be mention of any refunds they pay you in case they cannot successfully settle your debts.

You can choose to have a legal representative to review the agreement. Once everything is well understood you will sign the document.

These companies usually don't charge any fees until the completion of the debt settlement process. Some might charge a small enrollment fee. This is usually a minor percentage of the debt. However, you might be able to waive it if there's proof of severe financial hardship.

Step 3: Accumulate The Funds

The debt settlement company needs something for leverage during their negotiations with your creditors. So, they will guide you through setting up a special account. Your deposits in this account will accumulate into the lump sum the company is going to offer the creditors.

This dedicated savings account will work differently than a normal savings account. For instance, you can't use it for daily transactions. Also, instead of giving you full control over the account, a third party will manage it. This can be one of the company's partner banks or a similar financial institution.

At the same time, the company will suggest a strategy to pressure the creditors into taking the deal. Following their instructions, you will completely stop paying your creditors. Whatever you were going to pay them, you will now be depositing in that dedicated account.

The cessation of payments tells your creditors that you're in severe financial distress. This means you might soon declare bankruptcy and the creditors wouldn't get a dime out of you. Under such circumstances, the debt settlement will start looking like a safer and more profitable option to the creditors.

Remember, you should only stop making payments as per the instructions of the company. Otherwise, the creditors might end up taking legal action before you can make them the offer.

Step 4: The Negotiation

The most critical step in debt settlement is the negotiation with your creditors. They are not legally or ethically obliged to forgive anything you owe them. Therefore, the company must convince them that it's in the best interest of both parties to take the deal.

This process starts once you have accumulated sufficient funds in the account to offer the creditors a reasonable lump sum against your debts.

The company would've already done its research on how these creditors have handled debt settlement incidents in the past. Now, they would contact the lenders through phone or email to open the negotiations.

There are a few common tactics the company applies during the process. For instance, they would propose a much lesser sum than they intend to pay in the beginning. Thus, leaving the chance of further negotiation.

The company will also show your dedicated account statements to the creditors. This demonstrates that you have a genuine dedication to paying them back, although you can't afford all of it. The company will also present proof of your financial hardship to convince the lenders about your situation.

These efforts are likely to lead to two things. Firstly, the creditors will recognize that this is their best chance to recover at least some of their funds from you. Secondly, they will sympathize with your situation and give you a break.

At this point, the company will offer them a lump sum from your account. This will look appealing to the creditors since there's no guarantee you'll be able to pay the full debt in periodic payments in the future. And so, they will take the deal.

Step 5: Settlement and Finalization

Once the settlement is reached the company will start transferring the funds from your account to the creditors'. They would also charge the fees for their services according to the initial agreement.

You will receive a Debt Settlement Agreement from your creditors after everything is finalized. The agreement describes the settlement's terms and the final amount paid in transparent legal language. It should also clearly state that the creditors are satisfied and don't hold you accountable for any future payment.

According to the agreement, the lenders shall also confirm the settlement to the credit reporting agencies. So, check your credit report after the settlement. You can expect to see the debt accounts marked as 'paid' or 'settled'.

What Other Services Can You Expect From a Debt Settlement Company?

Your ties with the company don't have to end with the debt settlement. Many companies offer some further supportive services. These include financial counseling, credit repair, legal support, money management workshops, etc.

Financial Counseling

The company can provide a counselor to guide you to better manage your finances in the future. The goal is to ensure you don't fall into the same hardships again. For instance, they can help you create a realistic budget that aligns with your income and expenses. They can also help you craft a savings plan or set achievable long-term financial goals.

Credit Repair Services

Debt settlements have a bad impact on your credit scores. So, the company can offer services to repair them. It starts with reviewing your credit reports to find out inaccuracies like outdated information. Once found, they can represent you and dispute these errors with the credit bureaus and your creditors.

These services also include Credit Counseling to help you better understand and manage credit in the future. They can also provide personalized suggestions on building positive credit moving forward.

Tax Advice

When a creditor forgives a debt, the IRS sees that as income. As a result, they expect you to pay taxes on it. Debt settlement companies can help you understand these tax implications correctly. They can also help you to correctly report the forgiven loans to the IRS using the 1099-C form.

Also, there are various tax exclusions and exceptions in debt settlement. The company can help you explore these options so you can avoid paying the taxes.

Legal Assistance

During the process, the company's legal professionals can review the settlement agreement to ensure it's bulletproof. They might also assist if any dispute regarding the settlement arises after the finalization.

It's your legal right that no creditor or collection agency will pursue you after the settlement. And the company's legal wing will work to preserve that right.

Is Your Debt Settlement Company Legit?

Not all debt settlement companies are there to help you. Some of them are scams to leverage your desperation and make easy money. These companies will falsely promise you a settlement and try to collect whatever they can in the name of fees and ongoing service charges. In the end, you discover yourself in a much worse financial situation plus legal troubles.

To avoid falling into such a scam here are some tips to ensure you are dealing with a legit company-

Accreditations and Ratings

Organizations like AADR (formerly AFCC) and IAPDA set the standards for the debt settlement industry. If a debt settlement company is accredited by these organizations, you can reasonably assume that it maintains the industry standards and is legit.

You might also check the company's Better Business Bureau rating. An 'A' rated company is likely to have a good track record and is reliable.

Fee Structure

Legit companies don't usually demand any fee before the settlement. So, if you find a company charging heavy upfront fees, it's better to not enroll with them. Also, well-reputed debt settlement companies have been transparent about their fees from the very beginning.

Realistic Promises

Did your settlement company guarantee the complete elimination of your debts? In other words, are they promising a settlement where you would've to pay the creditors absolutely nothing? Well, it's very likely to be a scam then.

No company can even guarantee that they would make the creditors forgive a target percentage of your loans, let alone all of it. So, only enroll with companies who make realistic promises. Such trustworthy companies will also clearly state their settlement process and tell you to manage expectations.

Customer Reviews

The best way to judge a debt settlement company is to hear from their past clients. Legit companies usually have testimonials on their site. However, scam operations can post false testimonials too. So, it's best to research the company and see what other financial services review sites are saying about them.

Conclusion

As you can see, debt settlement companies don't make your loans disappear magically. They apply smart negotiation techniques while staying within the boundaries of the law. Therefore, it's important to understand the extent of their capabilities when you work with them.

You should also understand that debt settlement companies can only help you with unsecured loans. For example, credit card or medical bills. They can't do much for you in the case of mortgages and auto loans which are backed by collateral.