debt settlements
Debt Settlement, also known as debt arbitration or debt negotiation, is an approach to debt reduction in which the debtor and creditor agree on a reduced balance that will be regarded as payment in full.
As long as consumers continue to make minimum monthly payments, creditors will not negotiate a reduced balance. However, when payments stop, balances continue to grow because of late fees and ongoing interest.
In order to work with a debt settlement company, a consumer needs lump sum cash (best scenario), or build up enough funds over pre-determined period of time. Once enough funds are built up the negotiation process can begin with each creditor individually. Account can be held by credit card companies or may be sold to collections agency for average of $0.15 on the dollar. In which case debt can still be negotiated. The debt settlement company negotiates with the credit card companies for 35% - 50% of the existing balances. The debt settlement companies typically have built up a relationship during their normal business practices with the credit card companies and can come to a settlement agreement quickly.
With the current economic crisis, more and more credit card companies may be willing to settle existing credit card debts rather add to their already large written off bad debt.
History of Debt Settlement
As a concept, lenders have been practicing debt settlement thousands of years. However, the business of debt settlement became prominent in America during the late 1980s and early 1990s when bank deregulation, which loosened consumer lending practices, followed by an economic recession placed consumers in financial hardships.
With charge-offs (debts written-off by banks) increasing, banks established debt settlement departments staffed with personnel who were authorized to negotiate with defaulted cardholders to reduce the outstanding balances in hopes to recover funds that would otherwise be lost if the cardholder filed for Chapter 7 bankruptcy. Typical settlements ranged between 25% and 65% of the outstanding balance.
Alongside the unprecedented spike in personal debt loads, there has been another rather significant (even if criminally under reported) change - the 2005 passage of legislation that dramatically worsened the chances for average Americans to claim Chapter 7 bankruptcy protection. As things stand, should anyone filing for bankruptcy fail to meet the Internal Revenue Service regulated 'means test'; they would instead by shelved into the Chapter 13 debt restructuring plan. Essentially, Chapter 13 bankruptcies simply tell borrowers that they must pay back some or all of their debts to all unsecured lenders. Repayments under Chapter 13 can range from 1% to 100% of the amounts owed to unsecured creditors, based on the ability of the debtor to pay. Repayment periods are 3 years (for those who earn below the median income) or 5 years (for those above), under court mandated budgets that follow IRS guidelines, and the penalties for failure are more severe.
Creditor's Incentives
The creditor's primary incentive is to recover funds that would otherwise be lost if the debtor filed for bankruptcy. The other key incentive is that the creditor can often recover more funds than through other collection methods. Collection agencies and collection attorneys charge commissions as high as 40% on recovered funds. Bad debt purchasers buy portfolios of delinquent debts from creditors who give up on internal collection efforts and these bad debt purchasers pay between 1 and 12 cents on the dollar, depending on the age of the debt, with the oldest debts the cheapest. Collection calls and lawsuits often push debtors into bankruptcy, in which case the creditor often recovers no funds.
Source: Wikipedia
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