Debt Settlement and Debt Consolidation Assessment
Two well-publicized debt solutions are debt settlement and debt consolidation. While they share a common goal: helping you get out of debt, these two take a very different approach to getting you out of debt.
What is debt consolidation?
Through debt consolidation, you combine all your debts by paying them off with one loan. The total amount of your debt has not decreased; instead, you’ve changed your debt to make it easier to pay off.
Some companies incorrectly advertise debt settlement and credit counseling as consolidation because there is only one monthly payment. However, if you are combining your actual debts, then you are consolidating your debts.
Debt consolidation involves you qualifying for and getting a loan to pay off your debts. That can be difficult if you have bad credit or don’t have enough home equity to get a loan.
What is debt settlement?
Debt settlement is very different from consolidation. To reach an agreement, you usually negotiate with your creditors to agree to a lower balloon payment and pay off the rest of the debt. If the creditor agrees, he makes the payment and that debt is satisfied.
Some settlement companies may advertise this solution as debt consolidation because once you hire the company, you can stop making multiple payments to all your creditors and instead send a single payment to the debt settlement company. The settlement company can save all your payments and then make a settlement offer to your creditors once you have accumulated enough money.
Impact on your credit score
Assuming you’re current on all your bills at this point, debt consolidation may not have any impact on your credit score. You could experience a drop in your credit score when you apply for a debt consolidation loan or if you close your credit cards once they are consolidated.
Debt settlement, on the other hand, will likely cause your credit score to drop because you’ll have to stop paying your bills to pay them off. Not only that, your account status will likely show as “Liquidated” once the settlement is complete. This status is also likely to affect your credit score and your ability to get new credit for several months or years.
Additional cost
You will have to pay interest on the debt consolidation loan. The total amount of interest may be more or less than what you are currently paying, depending on the interest rate and the length of the loan. Ideally, you’ll pay less interest, but that’s not always the case.
There is usually little cost associated with debt settlement if you do it yourself. If you hire a settlement company, you will pay a fee to the settlement company for their services. Fees vary by settlement company, but you may pay around 15% of the debt that is discharged.
Which is the best
For some, debt settlement is a better option because they ultimately pay off only a fraction of the total debt. However, if you don’t want your credit score to drop, consolidation might be a better option, assuming you can qualify for a loan large enough to pay off all your debts.
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