Debt settlement company traps - MoneySense

Debt settlement company traps

Here’s what debt settlement agencies won’t tell you.


It’s no secret that I am not a fan of debt-settlement companies. When I revised Debt-Free Forever last year, I put in a section on how to manage your own debt-settlement and why using a company to do it for you may not be to your advantage. And yet debt settlement continues to be one of the things people ask about most often.

Now Ontario is planning to bring in legislation banning up-front fees, capping those fees, mandating that contracts be “transparent” and establishing a 10-day cooling off period. I joined Minister Tracy MacCharles to make the announcement, which wasn’t received with many oohs and ahhs. Maybe it’s because Alberta, Manitoba and Nova Scotia have already created debt-settlement rules and it’s about time Ontario got in on the act. Hey, better late than never!

The lure of debt-settlement is significant: pay less to settle your debts; manage one account instead of several; avoid bankruptcy. Problem is what they don’t tell you. Here are the drawbacks so you can be an informed consumer if you’re considering the debt-settlement path.

A debt settlement company will likely ask you to stop making all payments while they negotiate with your lenders. They’ll tell you that will put them in a better position to negotiate and it’ll let you save the money you need for the debt settlement. What they likely won’t say is that while your lenders go unpaid, your credit history goes straight into the dumper! And when the debt is finally settled, there will be a note on your credit history that says you settled for a lesser amount, further marring your credit for years to come.

It ain’t cheap either! Over the process, debt settlement companies charge thousands of dollars to save you all that money they’ve promised. Some charge up-front fees. Some charge a percentage of each payment you send it to satisfy the settlement. Either way, it’ll cost. Of course, those fees mean you’ll be out of the woods, so it’ll be well worth it, right? Maybe not.

Debt settlement companies don’t have the right to negotiate with your creditors unless you give them your power of attorney, which you should never do.

Also, the agreement the debt-settlement company makes is not binding. Nor can they guarantee that they’ll deliver the goods. That’s a pretty significant downside. They often offset that particular drawback by saying if they can’t do the job they won’t charge you. But that may take weeks or months to figure out as they collect fees and negotiate on your behalf. Sure, they may refund all or part of the fees they’ve collected, but in the meantime your credit history will have been besmirched and you won’t stand a chance of a successful negotiation. It’ll be off to the bankruptcy trustee for you next.