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Debt Consolidation Facts

1. If you spend more than 50% of your credit limit every month, this indicates to the Credit Bureau that you do NOT have enough cash on hand to meet your monthly expenses. This will identify you as a high credit risk and will actually reduce your credit score by 60 - 70 points overnight (Fair Isaac).

2. If you miss 1 or 2 payments on your credit card debt, the issuing company will skyrocket your interest rate to a whopping 27% - 30%!

3. Out of a random sample of 3 million American consumers (included in Experian's National Score Index), 51% of them have at least 2 credit cards and 14% of them have 10 or more credit cards.

Debt Settlement versus Debt Consolidation

Two popular debt relief programs involve debt consolidation or debt settlement. With debt consolidation, your unsecured debt is combined into one loan. This loan requires you to make one monthly payment that over a span of years pays off your debt. Debt consolidation loans may entail refinancing your mortgage and adding in the debt to your mortgage loan, taking on a home equity loan or taking out a personal loan for debt consolidation.

With debt settlement, you enroll with a credit counselor who negotiates with your creditors to reduce the amount of money that you will pay back. Your negotiated payment is due in one lump sum.

Companies offering debt settlement will set up a trust fund into which you make regular deposits. They take out a monthly maintenance fee. Once that account has enough money to pay off a creditor, the payment is submitted and you begin saving for the next lump sum payment.

Video: Suze Orman - Face It to Erase It

Debt Settlement Program Fees

Every debt relief company will charge you fees. Fees do vary from company to company. With debt settlement programs, it isn’t uncommon for companies to try and charge an application fee of $700 to $1,000 just to get started with the paperwork. After that, approximately $50 of your monthly payment goes to the company for their account maintenance. Be sure to shop around.

can debt settlement ruin your credit?

Many companies base their service fees on your total debt. Say you owe $30,000 in unsecured debt. If the company you’ve selected charges 10 percent as a service fee, be ready to pay $3,000 just for enrolling in their services.

So, with debt settlement, be ready to pay an application fee, service fee and monthly account maintenance fee.

How Debt Settlements Affect Credit Scores

Remember that with debt settlement, your counselor negotiates a lower pay-off amount with your creditor once you have money set aside. What is not always made clear is that until you’ve set aside enough money to pay off that account, your creditor will still contact you over the unpaid bills.

debt settlement vs. debt consolidation

Many people enroll with debt settlement firms and are surprised when their creditor tries to take them to court or garnish their wages. Until you’re debt is paid off, late fees may be added and your credit report will show that payments have been skipped regularly for months and possibly years. This is devastating to a credit score.

Debt management is the best route to take whenever possible. Debt settlement will bring a credit score to the lowest possible point and require years of very shrewd money management to rebuild.

Choosing a Debt Counselor

There are many legitimate debt-counseling companies throughout the United States. There are also some fraudulent ones. Don’t settle for the first company you find. Take your time to research customer reviews, Better Business Bureau rankings and even lawsuit notices.

Video: Credit Repair Clinics and Credit Counseling Scams

Warning Signs to Watch For

Those who have been scammed by a debt relief company often report the same things:

  • Avoid companies who claim they can save you more than 60 percent of your debt totals.
  • Companies saying you can be debt free in months rather than years are often fraudulent. The same is true of any program stating it will take you more than five years to pay back what you owe.
  • If a company promises they can stop collection agencies, ask them how. Legal action is the only method that will stop bill collectors.
  • Companies that have been in business for a short time and have no BBB rating are best avoided.

In general, your best option is to look for companies with a positive BBB ranking. Those associated with law firms are even better because they’ll have a legal team working to put an end to bill collectors, and they have the knowledge to legally pay off your debt as soon as possible.