We believe that debt settlement should be a last resort for those who are delinquent or struggling to make minimum payments on unsecured debts. The risks and drawbacks associated with debt settlement include:
- It hurts your credit: Since you’re required to stop making payments on outstanding debts to enter into a debt settlement program, late payments will show up on your credit reports and your credit scores will take a significant hit, potentially affecting future applications for credit and even employment. Accounts that are delinquent stay on your credit reports for seven years, as do accounts charged off by lenders.
- Success isn’t guaranteed: Successfully resolving all of your debt is partially out of your control. Some creditors do not negotiate with debt settlement companies and may sell the debt to a third-party collection agency or debt buyer instead. Freedom says it deals with the third party and may coach its clients to settle directly with creditors.
Moreover, according to a report by the Center for Responsible Lending, consumers must continue with a debt settlement program long enough and settle at least two-thirds of the debts enrolled to benefit. Freedom’s customers require an average of three years and 10 months to complete its program.
- Interest and fees accumulate: Over the period in which you’re enrolled in a debt settlement program, you’ll accrue additional interest and late fees on your debt. Negotiations typically do not begin until you’ve saved enough to make a reasonable offer to creditors, which could take several months. If you fail to stay on the program long enough to complete it, or if Freedom fails to negotiate a settlement, you’ll be stuck with the higher balance.
- You may still hear from debt collectors: Because you stop paying your accounts, you may receive aggressive collection attempts or even lawsuits from your creditors. Freedom says it encourages clients to direct all creditor communications to the company.
- Forgiven debt may be taxed: Because the IRS considers forgiven debt as taxable income, it’s possible you’ll owe taxes on the amount of debt you no longer had to pay after settling. Some creditors will send a Cancellation of Debt form 1099-C. One exception is if you are insolvent (have more liabilities than assets) at the time you settle debts with your creditors.
Speaking with a tax professional or lawyer for further guidance is recommended.