What Is A Debt Consolidation Company?
A debt consolidation company is a third-party entity retained by individuals who have unsecured debt on a fee basis. Some entities may be for profit, while others may be non-profit. These companies contact all creditors seeking resolutions with the stated goal to achieve uniform settlements of a debtor’s global debt situation with creditors. These entities themselves, whether for profit or not for profit, routinely charge a percentage fee which can vary widely.
How Common Is It For Debtors To Find Themselves Considering Or Even Signing Up For Debt Consolidation Programs?
It is very common for debtors to respond to advertisements and marketing efforts of debt consolidation companies who assert that the debt consolidation process is less costly and more efficient than a bankruptcy case. Nonetheless, the reality is that the debtor’s intent to avoid the stigma of bankruptcy or protect their credit score by not filing bankruptcy is usually not the correct informed decision for clients. Consolidation companies rarely explain the benefits of a structured process to obtain a bankruptcy discharge of all debts through a formal bankruptcy proceeding.
I Have Bad Credit And A Lot Of Debt, Why Would Any Of These Credit Or Debt Relieve Services Even Want To Work With Me?
Individuals who have both considerable debt and poor credit, very often contact debt consolidation entities. Some clients believe that individuals who run the companies have the best interest of the debtors at heart. However, very often it is the profit motive of these entities that affects their advice and recommendations. Despite the fact that an individual may owe far too much debt to try to resolve through debt consolidation, debt consolidation companies still market themselves as being able to solve all problems. They usually overpromise and underdeliver.
Are Any Of These Services A Good Idea For Debtors?
In fairness, there are limited circumstances when a debt consolidation plan may be preferable to an actual bankruptcy. As an example, younger people with stable income and less than 5 creditors may have incurred debt as a result of being careless with their finances and debt management. The significant problem with debt consolidation plans is there is absolutely no guarantee that the entire creditor body will support the proposals for debt reduction and/or agree to an interest moratorium for each individual debtor.
I view it as really an ad hoc process. The higher number of creditors an individual has and the larger total amount of unsecured debt, the likelihood of achieving a successful debt consolidation plan is substantially diminished. The primary reason for this conclusion is that not every creditor will support the claim reduction that the debt consolidation company initiates on behalf of the debtor. There have been circumstances where a debt consolidation plan begins with a nominal monthly payment amount of $200.00 to $300.00. Later, the clients are surprised when multiple lawsuits are filed against them by creditors who choose not to accept the proposal of the debt consolidation company. In those circumstances, clients may be advised to increase their plan payment and agree to Stipulations of Settlement with the creditors who have filed a lawsuit. The payment per month may increase by several hundred dollars—an entirely different expectation set at start of the case where they believed the consolidation company would resolve all debt at a 30 to 50% or even a larger percent discount of debt through the debt management program.
In a routine debt consolidation plan, there is no automatic stay preventing creditor lawsuits from being filed. More importantly, there is no legal requirement that any particular creditor settle for less than what is contractually owed to them. I have not heard of any individual client who unsuccessfully tried debt consolidation who was properly advised of the major negative effect of debt consolidation.
The issue in debt consolidation, if you discharge debt, you are responsible for federal income tax on the amount of tax that is forgiven. The cancellation of forgiveness of legal debts owed is defined as discharge of indebtedness income. If you eliminate $50,000 of debt from a total of $100,000 owed at the start of a debt consolidation program, the amount of debt forgiven is recognized as if you have actually earned $50,000 of W-2 wage income. A 1099 Form will be issued by the creditor for the amount of debt that has been cancelled. This is the unfortunate unintended consequence of debt reduction outside of bankruptcy where there is no tax owed on debt that is discharged.
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