By Megan Doyle | American Express Credit Intel Freelance Contributor
5 Min Read | November 06, 2019 in Money
In late 2018, total household debt in the U.S. reached $13.54 trillion—the 18th consecutive new quarterly high, according to the Federal Reserve.1 That may sound startling, and translate into future debt-servicing challenges for many Americans. But the fact is, financial crises can happen to anyone, at any time. The good news is that there are ways to manage—and often overcome—debt. Among the many strategies are debt relief programs, which aim to renegotiate your debt with your creditors. That might sound like a dream come true—but if you’re not careful, debt relief programs can make matters worse.
Debt relief programs, also known as debt settlement or debt adjustment programs, promise to help you get out of debt by renegotiating, settling, or changing the terms of your debt with your creditor.2 If you have credit card debt, for instance, a debt relief company might be able to negotiate with your credit card issuer to reduce the total amount you owe. That’s sometimes called credit card debt forgiveness, but that term sounds better than it usually is—100 percent forgiveness is rare.
To qualify for a debt relief program, you’ll likely need to demonstrate legitimate financial hardship. This means you won’t qualify if you’re just a month or two behind on your bills. You’ll likely have to be at least $7,500 in debt, otherwise creditors will have no incentive to negotiate, according to some debt relief companies.3
First, you sign up with a debt relief company. If you qualify for a debt relief program, the company will attempt to negotiate with your creditors to let you pay off your debts with a lump sum that’s less than the total amount owed.4
To build up that lump sum, debt relief companies typically require you to make monthly deposits to an independent savings account for as long as three (or more) years.5 In the meantime, debt relief companies will usually advise their clients to stop paying creditors.6 The idea is to make creditors begin to worry that you won’t pay at all, incentivizing some level of debt forgiveness since they’d rather get some payment over no payment.7
According to the U.S. Consumer Financial Protection Bureau (CFPB), debt relief programs are notorious for offering unsound financial advice, being expensive, and being downright risky.8 Here’s why:
But don’t think you can avoid the taxman. The CFPB warns that if the debt relief company succeeds in having your debt forgiven at a fair price, whatever amount is forgiven might be counted as taxable income on your federal income taxes.
However, that’s not to say all debt relief programs are bad news. To weed out the good from the bad, the U.S Federal Trade Commission (FTC) recommends contacting your state Attorney General and local consumer protection agency to find out if the agency is licensed, and whether or not any consumer complaints have been filed about the company.9
Before agreeing to a debt relief program, the CFPB recommends looking into alternative solutions, like nonprofit credit counseling services. These counseling services provide educational materials, individualized financial counseling, and even debt restructuring services to help consumers get out of debt. And, a recent study shows they can be an effective strategy for addressing consumer debt. 10
The CFPB also recommends working directly with your creditors or debt collectors. By calling your lenders to explain your situation and discuss options, you might be granted a grace period, lower interest rates, or the option to join a program to help you pay off your debt without risking extra fees, lawsuits, or too much damage to your credit score.
You might also be able to reduce what you owe by consolidating your debt.
If debt relief programs sound too good to be true, it’s because they can be—if you’re not careful. Since debt relief programs can be expensive or offer financial advice that could harm your credit score, the Consumer Financial Protection Bureau recommends understanding the risks and considering alternatives before entering into an agreement with a debt relief program provider.
1 Quarterly Report on U.S. Household Debt and Credit, Federal Reserve Bank of New York
2 “What are debt settlement/debt relief services and should I use them?,” Consumer Financial Protection Bureau
3 “How does the Debt Relief Program Work?,” National Debt Relief
5 “Coping with Debt,” Federal Trade Commission
6 “What’s the difference between a credit counselor and a debt settlement or debt relief company?,” Consumer Financial Protection Bureau
8 “What are debt settlement/debt relief services and should I use them?,” Consumer Financial Protection Bureau
9 “Coping with Debt,” Federal Trade Commission;
10 “Credit counseling may help reduce consumer debt,” EurekAlert!