The Pros & Cons of a Credit Card Debt Settlement or Negotiation

by Steve Lander

According to data from the Federal Reserve Bank, American households owed a total of $850.9 billion in credit card debt in January of 2013. Many households that make up this mountain of debt fall behind in making their payments and need some help to get out of debt. Negotiating a settlement on the debt can be an excellent solution to the problem, but it also involves some tradeoffs.

Settlement or Negotiation

There are two broad ways to reduce your credit card debt. One is to work directly with your creditors or their collection agencies to negotiate the ability to pay them off with a reduced amount. The other is to work with a third-party settlement company that negotiates on your behalf with your credit card companies. Many of these settlement companies will set up long-term payment plans to help you manage your debts.

End to Collections

When you are able to negotiate a settlement for your debt, you stop the collections process. With a completed settlement, your creditor is satisfied and has no need to keep pursuing you. As such, settlements stop the harassing phone calls, threats of lawsuits, ominous letters and stronger tactics like actual lawsuits or wage garnishments.

Significant Savings

Settling your debt can also save you money. It's not uncommon for creditors to take just a fraction of your balance to consider your account closed. When you take into account the fact that you're frequently also erasing interest charges and late fees, this can add up to a large sum of money.

Damaged Credit

One of the drawbacks of settling your debt is that it will damage your credit. Most creditors will put a notation on your credit report that the account was closed and that it was settled in full instead of paid in full. Also, if your debt settlement agency has you stop making payments as a part of your settlement, the late payments will also damage your credit. On the other hand, the damage that a settlement will do to your credit pales next to what a bankruptcy would do.

Additional Tax Liability

When you settle your credit card debts for less than you owe, the Internal Revenue Service treats it as an income. As such, your credit card issuer will send you a 1099 form at the end of the year, and you will have report your savings on your tax return. Although paying income tax on it reduces the value of your savings, you're still saving money at the end of the day.

About the Author

Steve Lander has been a writer since 1996, with experience in the fields of financial services, real estate and technology. His work has appeared in trade publications such as the "Minnesota Real Estate Journal" and "Minnesota Multi-Housing Association Advocate." Lander holds a Bachelor of Arts in political science from Columbia University.

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