For many people in debt, bankruptcy is far and away the most cost-effective form of debt relief. However, for those who have significant non-exempt assets or higher income, bankruptcy may mean that they pay back a lot, if not all, of their debt. For these people, debt settlement may be a more cost effective solution.

Debt settlement means directly negotiating with your creditors outside of bankruptcy to achieve a reduction in the balance you owe your creditors. Most credit card lenders and medical creditors will accept a fraction of the balance owed in full settlement of the debt. Some creditors drive harder bargains than others, but our experience is that a balance reduction of 50% can be achieved across all of your credit card and medical creditors (some may take as little as 10% or 20%).

Necessary Elements for Settling Debt

In order to achieve a reduction in the balance you owe a creditor through debt settlement, several factors generally must exist:

  • 1) You must be in default of the obligation (i.e., not paying it). The best deal for your creditors is that you pay them according to their terms. So as long as you are doing this, they have no incentive to give you a break. Unfortunately, your personal difficulties are generally not enough to get a deal. You need to represent risk so that the lender will take less than the balance owed. You achieve this by not paying. Many creditors will start accepting less than the full balance after three months of non-payment.
  • 2) You typically need lump sums of cash to settle debt. Your creditors are not going to replace a promise to pay 100% of the balance owed for a promise to pay 50% of the balance owed. They already have a promise to pay. However, when you are not paying them and represent credit risk, your creditors may accept 50% or less of the balance if that amount is paid in a lump sum in the relative near term (i.e., a couple of weeks). While it is sometimes possible to settle debts at a fraction of what is owed as payable-over-time, one-time payments tend to enable better settlement offers. Further, settlements payable in a lump sum remove the risk of default. The worst-case scenario for a debtor in settling his or her debts is to default on settlement payments. This is because the settlement agreements will typically state the settlement deal is terminated if you miss payment (i.e., default). Then, the balance owed typically reverts back to 100% plus interest, less any amounts you paid for the settlement.
  • 3) You have credit cards, medical bills, and or deficiencies from auto loans or mortgages. Not all debts can be settled, but these types of debts can typically be settled. Other debts can be difficult, if not impossible, to settle. For example, student loans are extremely difficult to settle because they can’t be discharged in bankruptcy. Taxes and other debts owed to the government (ex., SBA loans) have formal settlement procedures which, like bankruptcy, will evaluate your assets and income to determine your ability to repay.

Risk of Being Sued and The Importance of Timing in Settling Debt

Debt settlement carries with it an inherent risk of being sued. Because settling debts requires you to be in default, there is always a risk that you will be sued while settling your debts. The reason a creditor sues you is so that the creditor can get a judgment, which can be used to put a lien on your home or to garnish your wages or bank account. Generally speaking, you can settle debts even when you are being sued. However, the amount you pay to settle tends to increase after you have been sued. Additionally, you may need to respond to your lawsuit in order to settle it. If you do not respond, the creditor is able to garnish your wages, and settlement becomes difficult if not impossible.

Timing is a key component of debt settlement. On the one hand, you must be far enough into default in order for the creditor to consider taking a fraction of the debt to settle it. And many creditors become willing to accept less in full settlement of a debt as you go farther into default. On the other hand, missing payments to creditors means you are on the road to getting sued. While each creditor and each debt will be different, they tend to follow a similar curve.

It is important to know that debt forgiven through settlement is taxable income. For example, if you pay $4,000 to settle a credit card balance of $10,000, the credit card lender will issue you a 1099 for $6,000 of taxable income. This is a key distinction from bankruptcy, where discharged debt is not taxable. You may be able to avoid the tax on debt forgiven through settlement if you were insolvent (i.e., your debts are worth more than your assets) when you settled the debt.

The Value of Wink & Wink in Debt Settlement

Wink & Wink can help you settle your debt. Wink & Wink will manage the communications with your creditors so you aren’t inundated with collection calls and so that the message to the creditors is crafted toward getting you the best settlement possible. If you get sued, Wink & Wink can advise you on how to manage the lawsuit for settlement. Additionally, because of our experience in settling debts, Wink & Wink can advise you when a settlement offer is likely to get better and when to accept an offer because it is likely to get worse. Finally, if your situation changes while you are attempting to settle your debts (ex., your income changes), Wink & Wink can help you re-evaluate your debt relief options, including bankruptcy.