Debt settlement or pay in full - Which should you do?

The lure of credit cards and the ease with which they may be used makes it quite a simple matter to run up thousands of dollars worth of credit card debt in a short period of time. If you have a lot of debt; you are not alone; most Americans carry a balance on their credit cards and the average credit card debt is more than $9000. But what if your debt becomes so great that you cannot pay? What will your creditors do?

In the short term, they will probably contact you to let you know that you are past due. They may even offer to renegotiate your payment schedule with you if you do not have a long term habit of not paying. Eventually, however, they will turn your debt over to a collection agency and let them try to work something out with you.

In the meantime, your failure to pay your bills on time gets noted on your credit report as a delinquency, and that will stay there for seven years as a warning to anyone else who may wish to extend credit or lend money to you. But what about negotiating your debt?

Under certain circumstances, you can negotiate with your creditor or the collection agency to lower the total debt, or to restructure the payments. You may even get them to agree to settle for less than the total amount owed. They might even suggest it. And if they offer to settle for, say, 60% of the amount you owe, it may be worth your while. The letters and phone calls from the collection agencies get old after a while and paying less than the total is certainly easier from a financial standpoint. Should you do it?

Maybe, and maybe not. Settling a debt for less than the full amount is still settling the debt, and that is often its own reward. You get the debt out of the way and you, your creditor and the collection agency can all move on with your lives. On the other hand, there is a tremendous downside to agreeing to settle for less than the full amount. Your credit report will note that you paid off your debt, but it will note that the amount you paid was not the full amount. This will act as a red flag to future lenders, who will view it as a signal that you may not be responsible. Worse, the amount that the creditor agrees to waive will be treated as taxable income by the Internal Revenue Service. If you owe $10,000 and your creditor agrees to settle for $5000, you will then have to pay income tax on the $5000 that you didn’t repay.

Granted, even paying taxes on the $5000 is less than if you paid the full $10,000, but no one likes to pay taxes. For many people with constant financial problems, settling a debt for less than the full amount is probably a good idea if your creditor is willing to accept it. Just be aware that there is a price to pay for that convenience.

Copyright © 2005-2007 by Retro Marketing. All rights reserved.