Debt settlement is a negotiated agreement in which a lender accepts less than the full amount owed, sometimes significantly less, to legally settle a debt. There is considerable risk to this debt relief option. It is not accepted by all lenders and can damage your credit score for seven years.

Can I Settle a Debt for Less than I Owe?

The quick answer is: Yes! The whole goal of debt settlement to pay less than you owe and that is what all the debt settlement companies’ promise will happen. The good debt settlement companies will have a long enough track record to tell you how much you can expect to pay and about how long the process will take.

It’s actually possible to do this yourself, but that could be very risky if you’re not experienced at driving a hard bargain. The creditor or, more likely, the debt collection agency has done this plenty of times and could use intimidating tactics to scare consumers into paying the full tab.

That’s where the debt settlement company stands out. They have enough experience not to be intimidated and to negotiate a settlement that will provide real savings and an opportunity to start over. But it comes with a cost and that price is not only money.

The process typically takes 36-48 months for the consumer to put enough money into an escrow account for the debt settlement company to make a competitive offer. During that time, interest and late fees will make the total grow, sometimes in alarming amounts. Brace yourself for that.

When the debt is finally settled, there is another cost: damage to your credit. Your credit report and credit score will be stained for seven years, showing the account as settled meaning the debt was not paid in full. Your credit score will take a hit anywhere between 100-125 points because of that.

That means, the next time you look for a loan or line of credit, the lender will see that and factor it into the decision of whether to take a chance on lending you money again.

How Debt Settlement Works

  • The first step is deciding whether to hire a debt settlement company or lawyer to negotiate a settlement. You could do this yourself. The goal is to reduce significantly the amount you pay. Experience helps. So does having enough money to make a lump-sum offer. Start saving immediately.
  • Next, meet with the original lender, plead for mercy and ask if they’re willing to settle. If your account is more than six months overdue, the debt likely has been turned over to a collection agency, which has the opposite goal: They want to get as much money from you as they can.
  • It could take three years to save enough money to make an offer. Usually, you are asked to stop paying creditors and instead send monthly payments to your representative to build an account. Meanwhile, interest charges on your debt grow and your account balance grows with it.
  • It’s time to make an offer. Be patient. Creditors have no obligation to accept debt settlement offers. This could take months, maybe years. If the creditor accepts, get it in writing. Also, ask the creditor to send the major credit bureaus notice that the debt has been settled.
  • Now, see if you saved money. Debt settlement companies usually charge 15% of the amount owed or 25% of the amount saved. Lawyers could charge an hourly rate or standard fee. There also are taxes owed to the IRS on the amount forgiven. It is not a sure thing you came out ahead. .