How Does Bankruptcy Compare to Debt Settlement?

As the economy worsens, the commercials and ads for debt settlement as an alternative to bankruptcy have mushroomed.  Most people have some idea what bankruptcy is but are less clear.  Debt settlement is the concept of convincing your creditor to accept less what you owe clear up debt.

What is Debt Settlement?

Debt Settlement involves:

• Only involves unsecured debt  such as credit card debt and personal loans.
• Negotiation with your creditors to accept an amount less than what you owe.
• Amount forgiven may be considered taxable income by the IRS.
• May not improve your credit rating.
• May include large fees to the settlement company.
• No guarantee that the creditor will accept the negotiate settlement.

What is Bankruptcy?

Bankruptcy involves:

• Is a legal proceeding that creditors cannot avoid once it is filed.
• Creditors cannot take any action to collect on the debts during the pendency of the bankruptcy.
• Depending on the chapter under which a bankruptcy petition is filed creditor may not receive any payment on general unsecured debts.
• Discharge in bankruptcy relieves debtor of the legal obligation to repay debts.
• Filing fees and administrative fees paid to trustee are limited by statute.
• Credit counseling is required.
• Bankruptcy filing remains on credit record for at least 7 years.

Bankruptcy vs. Debt Settlement

What should you choose, Bankruptcy or Debt Settlement?  Unfortunately, the answer is that it depends on several factors.

• If you are not careful, debt settlement can have the effect of worsening your financial situation if you choose the wrong company.  Check with your states attorney general’s office or division of consumer affairs and only deal with licensed companies.
• Be wary of debt settlement companies that charge excessive fees or those that advise you to stop paying your creditors and pay the debt settlement company instead.  This will increase your late charges and other penalties on credit cards, with no guarantee that your creditor will accept your plan. 
• Bankruptcy does stay on your credit report for 7 years but if you are considering debt settlement, your credit history is already in bad shape.
• A chapter 13 filing in bankruptcy can give you a similar result to debt settlement with much less uncertainty.
• Discharge in bankruptcy is a powerful tool that protects your "fresh start" when your economic situation improves.

Do You Need a Lawyer?

A lawyer experienced in bankruptcy law can of great help guiding you as to which option to choose to resolve your financial problems.  They can review proposed contracts with a debt settlement company or represent you in bankruptcy court.  This is an area of the law where it is best to have good legal counsel.