Debt settlement is not the same as debt consolidation. In debt consolidation, your debts are combined so you have fewer creditors to pay each month. Debt settlement is a concept in which a company works on your behalf to negotiate with your creditors for a reduction in your debt. While the concept sounds good in theory, in practice it may not result in significant savings to the debtor.
In debt settlement, a debtor must have either a lump sum amount of money to pay the creditor, or be able to make monthly payments to the debt settlement company. If monthly payments are made to the debt settlement company, they are paid into a “trust” account that will eventually be used to pay the creditor. The debt settlement company makes its money by taking a percentage of the amount of money it saved the debtor, taking a percentage of the monthly payments as an administrative fee, and/or requiring a nonrefundable administrative fee that is paid in advance. Some debt settlement companies charge an upfront setup fee and a monthly maintenance fee for your account.
The debt settlement industry has come under scrutiny in recent years due to complaints by consumers of various fraudulent and deceptive business practices. Many complaints stemmed from debt settlement companies charging excessive upfront fees or obscure fees that result in most of the consumer’s money going to the debt settlement company rather than toward the reduction of their debt. There also have been questions raised about whether the debt reduction a debt settlement company might obtain is any better than the reduction the debtor might have obtained if he or she had negotiated with the creditor themselves. FTC regulations that took effect in October 2010 prohibit debt settlement companies from charging upfront fees, but this restriction only applies to debt settlement companies who conduct business via telemarketing.
If you are considering using the services of a debt settlement company, we recommend that you conduct background research to make sure the company is reputable and has an A rating with the Better Business Bureau.