You’re hopelessly in credit card debt.
You’re in so deep you’re considering bankruptcy.
Wait a minute, did you know that you don’t have to pay it all back, a television announcer claims.
There’s “a secret that the credit card companies don’t want you to know.” This “secret” will allow you to wipe out card debts for a fraction of what you owe.
So begins a commercial for a credit card settlement company. The announcer says anyone with $5,000 or more of card debt can call. These kinds of companies claim that they can pull you out of your debt mess on the cheap.
The Card Settlement Company Pitch
“On average, we save our clients in excess of 55% of what they otherwise would owe,” says Rick Burton, executive vice president with CreditAssociates.
“Negotiating with creditors directly can be a difficult and laborious process, which is why many people turn to professional debt settlement companies like Freedom Debt Relief,” says Michael Micheletti, a company spokesman.
Depending on the customer, Freedom Relief can reduce a debt by about half, he says. Customers, he adds, typically pay a fee, often about 15 percent, based on the amount of the debt reduced.
Micheletti cites an example. Say the company, with the cardholder’s approval, negotiates a $20,000 reduction in a person’s card debt. Then the fee would be $3,000, according to Micheletti.
How Can They Do It?
Card companies try to collect on an unsecured asset, say credit card industry experts. So, unlike a mortgage on a home, there’s no asset to seize when one can’t pay, making it difficult to collect. Card companies, which now have record business, are often ready to negotiate bad debts, some card industry experts say.
Card settlement companies claim they’ll get a good deal for overextended cardholders. But critics and regulators question debt settlement services and their methods.
Debt settlement companies usually ask a cardholder to transfer an agreed on amount every month into an escrow-like account, the Federal Trade Commission (FTC) writes in a paper. The amount is enough to pay off a settlement that is eventually reached with the card company. “Further, these programs often encourage or instruct their clients to stop making any monthly payments to their creditors,” the FTC writes.
But the FTC warns some debt settlement companies are scams. For example, the FTC recently moved against 11 Florida debt settlement companies.
Taking Your Money and Doing Nada
“Overtime,” the FTC wrote, “victims found their debts unpaid, their accounts in default and their credit scores damaged.”
Some companies, the FTC says, “may try to collect their own fees from you before they have settled any of your debts—a practice prohibited under the FTC’s Telemarketing Sales Rule (TSR) for companies engaged in telemarketing these services.”
A credit card industry analyst, who says he would never recommend these services, complains even legitimate ones don’t advertise the downside.
“Settling your debt for less than you owe has a devastating effect on your credit. FICO says someone with excellent credit (a 780 score) could lose 140-160 points due to debt settlement,” says Ted Rossman, with CreditCards.com.
“That would put them on the verge of a subprime score,” he adds. “They would find it harder and more expensive to obtain future credit, and the negative effects could last for years.”
CreditAssociates’ Burton doesn’t disagree that one’s credit score will be hurt: “As we tell all clients “participation in our program will most likely continue to hurt their credit score in the short term. Once debt is resolved, however, they may successfully work on improving that score.”
And Freedom Debt Relief’s Micheletti says in many cases, “our prospective clients are not in a position to be seeking credit and, therefore, are better off to address their underlying debt problems and then work with us to rebuild their credit scores.”
There’s another issue. Any amount forgiven is treated as income and taxed, says Bernard Kiely, a CPA in Morristown, New Jersey. “You’ll get a 1099 form on that.”
Credit card settlement companies don’t dispute this but insist their services are needed.
Burton concedes that there are some “disreputable” card settlement companies. Still, he says CreditAssociates provides an important service and it isn’t paid until there is a satisfactory settlement.
“We deliver exactly what we promise,” he says.
There are lots of potential candidates for these services. Americans are setting new card debt levels. Indeed, in a recent poll, millions of Americans conceded that their debts were unlikely to be paid in their lifetimes.
May the Debt Be with You.
I’ll never escape my debts. I’ll take them to my grave.
That’s the lament of millions of Americans, according to a new CreditCards.com study.
About two thirds of American adults polled, don’t know when or if they will ever be debt free, the study said. This includes 25 percent of those polled who expect to take debts to the grave.
The average household had a card debt of $8,169 in November 2018, or about $1.042 trillion dollars, according to the Federal Reserve. The Fed added the $1.042 trillion figure now exceeds the previous pre-recession credit card record of $1.02 trillion in 2008.
An adviser warns that many of these people, helping to run up record debt, need to think twice about how they’re spending money.
“These people who believe that they will die in debt need a change in attitude. They need to sit down with someone who will help them get out of the debt trap,” according to Charles Hughes, a veteran certified financial planner (CFP) in Bay Shore, New York.
Still, 80% of respondents say they have a strategy for escaping.
“The most common strategy,” according to the study, “is paying substantially more than the minimum monthly payment.”
Rossman, the industry analyst with CreditCards.com., says “I advise people that they can get out of debt, but it won’t be easy.”
Rossman believes paying much more than the minimum makes sense. He also says non-profit credit card counseling firms can also help.
Most professional advisors recommend non-profit credit counselors. Rossman likes Money Management International.
But zero percent balance transfer cards also can help, Rossman adds.
These cards, he adds, can give “people a pause from paying a card debt that can include some 25 percent interest for those with the worst credit records.”
However, the disadvantage of these zero percent cards is some people use the respite from interest on old debt to run up new debts. And some of these zero percent cards, Rossman notes, charge a fee for transferring debt.
Rossman lists some of his favorite zero percent transfer cards.
Each of these cards, Rossman says, offer 15 months with 0% interest and no transfer fees. Some zero percent transfer cards, he adds, can offer longer periods of zero percent interest—up to 21 months—but charge 3% to 5% transfer fees.
To avoid ever having to face these difficult situations or to get out of them as fast as possible remember the basic money management principles that this blog has consistently advocated.
GregoryBresiger.com repeats credit card advice that never changes. Become a transactor, not a revolver, as soon as possible. Transactors are consumers who pay off credit card debts every month. By doing that, they pay zero percent interest. The credit card companies hate these people because they cut into their profit margins.
Revolvers, people who carry card balances from month to month and pay incredibly high interest rates on them, are committing financial suicide. They should stop doing so as soon as possible, or, in the case of the financially enlightened, they should never revolve.