They’re everywhere these days – ads from debt settlement companies claiming they can help you pay off your credit card balances for pennies on the dollar.
Debt settlement involves negotiating with credit card companies and other creditors to lower the principal amount you owe, then paying it off in a single lump sum. This is different than credit counseling, which typically involves negotiating a lower interest rate and payments, then paying off the debt in full over time.
I’ve written about both debt settlement and credit counseling extensively. In general, I like credit counseling and advise people to steer clear of debt settlement companies. Here’s an article I wrote that explains credit counseling. If you want to know more about debt settlement, and why I think it offers more hype than hope, check out posts I’ve done just this year…
- January, 2010: Should You Consider Debt Settlement?
- February, 2010: Debt Settlement Industry Bites Back
- April, 2010: GAO: Debt Settlement Industry Defrauds Consumers
- July, 2010: New Rules Could Erase Debt Settlement Industry
If you didn’t read those articles, here’s the gist: too many debt settlement companies suck. The bad apples in the barrel – and there are many – promise things they have no intention of delivering, charge too much to do too little, and utterly vaporize your credit history.
Last summer the FTC finally stepped up to the plate and put out new rules for debt settlement companies that will cost them money and probably save hapless consumers from abuse. And now those rules are starting to go into effect. Here they are in a nutshell.
Starting September 27: New Rule – Tell the truth
According to the FTC, the rules that take effect on the 27th…
- require debt relief companies to make specific disclosures to consumers;
- prohibit them from making misrepresentations; and
- extend the Telemarketing Sales Rule to cover calls consumers make to these firms in response to debt relief advertising.
What this means in plain English is that debt settlement companies can’t overstate the success of their programs – they’re also required to disclose potential negative side effects of a debt settlement. For example, many debt settlement companies have in the past assured consumers that settling a debt wouldn’t negatively impact their credit score. This is complete hogwash. Paying less on a debt than is owed will nearly always lower your credit score. It could also cause an income tax issue. For more examples of the false promises some debt settlement companies routinely employ, see the GAO story above.
Starting October 27: New Rule – Don’t charge till you do something
While telling the truth may prove difficult for some debt settlement companies, it’s this new rule that’s really going to hurt. Because rather than charge up-front for their services like they typically do now, they’ll have to wait until at least one of the following occurs:
- the debt relief service successfully renegotiates, settles, reduces, or otherwise changes the terms of at least one of the consumer’s debts;
- there is a written settlement agreement, debt management plan, or other agreement between the consumer and the creditor, and the consumer has agreed to it; and
- the consumer has made at least one payment to the creditor as a result of the agreement negotiated by the debt relief provider.
In other words, until the debt settlement company actually performs, they don’t get paid. Another rule that will go into effect on Oct 27 requires them to keep all customer funds in a segregated, insured account.
These rules don’t apply to all companies, just for-profits. And don’t think that just because there are new rules that prohibit wrong-doing that it won’t occur anyway. After all, we’re talking about companies that, at least in some cases, employ commissioned salespeople who take complete advantage of the broke, innocent, and desperate – not normally the type to follow rules.
My advice? If you’re in debt trouble, avoid debt settlement companies. Instead, talk to a credit counseling organization, or a bankruptcy lawyer.
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