If You’re Thinking of Enrolling in a Debt Settlement or Debt Consolidation Program, You Should First Talk to One of Our San Jose Bankruptcy Attorneys
The debt settlement industry advertises a lot. And they try to scare people away from the protections that consumer bankruptcy law provides by making filing for bankruptcy sound as though it were shameful or will “ruin” your credit for years to come.
The fact is debt settlement programs fail about two-thirds of the time according to the debt settlement industry itself. You don’t have to take my word for it. The National Association of Consumer Bankruptcy Attorneys (NACBA) has published a white paper on the debt settlement trap citing the Better Business Bureau, statistics provided to state attorneys general, as well as reports published by the Federal Trade Commission, and the U.S. Government Accountability Office. Read more here.
Debt Settlement Programs Will Ruin Your Credit for Years to Come
The first thing that a debt settlement company will tell you is to stop paying your creditors. That’s right. They encourage consumers to default on their debts. This is because a credit card company or other debt collector has no incentive to negotiate any settlement with a person who is current on making her payments. Why would they? In fact, the debt settlement companies do have a point.
But once you default on that debt, expect ballooning interest, penalties, and aggressive debt collection activities. Oh, and all your creditors will promptly report to all three credit reporting agencies: Equifax, Experian, and Transunion, that you have defaulted on your debt. After that, expect more aggressive collections, including collection lawsuits, wage garnishments and bank levies.
Debt Settlement Cannot Prevent or Protect You from Being Sued, Having Your Wages Garnished, or Your Bank Accounts Emptied by Your Creditors
When a person files for bankruptcy protection, she becomes immediately protected from nearly all collection efforts by credit cards, collection agencies, debt buyers, and others. They cannot initiate a collection lawsuit, or continue prosecuting a lawsuit against the person who filed for bankruptcy because bankruptcy law requires that collectors stop their efforts. This protection is known as the Automatic Stay (11 U.S.C. §362). A person who files for bankruptcy is protected by federal law from wage garnishments, bank levies, law suits, collections phone calls, and other tactics used by consumer creditors. Debt settlement companies cannot offer legal protection from collections like the Bankruptcy Court can.
Debt settlement schemes are private programs. They’re run by private companies interested in keeping you away from the protections of bankruptcy law. They are not run by any court, and consumers enrolled in them are not protected by any law from continued collection efforts by their creditors. Private debt settlement schemes are just that: schemes, gimmicks. They do not offer real debt relief because they cannot offer a discharge of debts. A discharge of debts can only be granted by the Bankruptcy Court.
Debt Settlement Can Raise Your Taxes
As surprising as it may seem, if you settle a debt with a creditor for less than the full amount you owe, the IRS treats the amount that was forgiven as though it were income! In fact, the creditor is required by the Internal Revenue Code to report to the IRS (on a 1099-C) this “canceled debt,” which is then added to your taxable income for that tax year. So even in the minority of cases where the debt settlement companies successfully settle a debt on your behalf for less than the full amount, the you can see a big increase in the amount of taxes you owe for that year!
Debts discharged in bankruptcy are specifically exempt from this rule and are not treated as taxable income.
Most Debt Settlement Schemes Fail
Debt settlement is a gamble. It’s a game of chicken. It’s betting that your creditors will settle your debts for less than what you owe or accept payments over time. Some creditors will agree to settle consumer debts. Many won’t. Why would they if they can sue you and garnish your wages or empty your bank accounts? The Federal Trade Commission and state attorneys general, cited by the Government Accountability Office in an April 2010 report, have found that the number of consumers who successfully complete a debt settlement program are often less than 10%.
When Debt Settlement Fails, the Consumer Is Left Worse Off than Before
I have personally represented dozens of clients in bankruptcy after they have come to me, collections lawsuit in hand, who have been enrolled in a private debt settlement or debt consolidation scheme for months or sometimes years. After paying the debt settlement company a monthly amount—usually several hundred dollars—hoping that the debt settlement company is successfully settling their debts, they get sued by one or more of their creditors. This is common.
Even if they had relatively good credit before, now it truly has been ruined because they followed the advice of the debt settlement company. But the promises that they could successfully settle their debts so the consumer might avoid bankruptcy prove false. So, now they have a lawsuit or two (or three), ruined credit, and perhaps even a wage garnishment.
Bankruptcy Protection Is Better Than Debt Settlement
Chapter 13 Bankruptcy provides a vehicle for paying a portion of your unsecured consumer debts over a period of three or five years depending upon your ability to pay. Meanwhile, the person in Chapter 13 bankruptcy is protected from her creditors. They cannot contact, harass you, or collect from you at all while you are protected by the Bankruptcy Court. Debt settlement companies cannot prohibit your creditors from harassing you. Only the Bankruptcy Court can do that. The only real, legal debt relief is debt relief that actually discharges your debts and protects you from collections.
Chapter 13 bankruptcy is not a negotiation. I do not need to call each of your creditors, on bended knee, begging that they accept something less than the full amount you owe. Rather, a Chapter 13 bankruptcy plan proposes to pay a portion of general unsecured debts (and even non-priority tax debts) based upon your projected disposable income or the value of your assets (but only the “non-exempt” value, or the amount in excess of what you can protect in a Chapter 7 bankruptcy).
Most Chapter 13 bankruptcy plans provide for significantly less than full payment of general unsecured debts like credit card debts, medical bills, non-priority taxes, etc.
If you have no monthly disposable income after necessary living expenses, and if you do not have assets with values higher than you may exempt in your state, then Chapter 7 bankruptcy can offer a discharge of all those general unsecured debts without any payments to them at all!
For all these reasons, if you are considering a debt settlement program that you saw on TV or heard about on a radio ad—telling you not to file for bankruptcy—do yourself a big favor and ask for a free consultation with one of our San Jose bankruptcy attorneys first!
Jon Brooks was wonderful to work with on filing for bankruptcy. He is professional, polite, and very detailed. I'm so grateful I'm debt free... Read moreMichelle D., San Jose
I just wanted to take this time to say that I had the privilege of being represented by my bankruptcy attorney Jon. At first I was really te... Read moreFrank S., San Jose
Jon focused on the key issues quickly, and knew critical answers I could not find elsewhere – even from other attorneys! I highly recommen... Read moreC.C., San Jose
If you are reading this, chances are you haven’t been on a ‘winning streak’ in your life lately. When my wife and I came in to see Jon... Read moreKeith A., San Jose
Jon provided me with the pros and cons of what type of bankruptcy to file which I understood very well as they were presented to me and my w... Read moreTony G., Fremont
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Jon Brooks helped us get a fresh start without making us feel ashamed for our bankruptcy. He and his staff were professional to an ultimate ... Read moreY. Carter and D. Carter, San Jose
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