Debt Settlement Fees: You Don’t Pay Until Your Debts are Settled

If you’re struggling to keep up with credit card payments, medical bills, payday loans and other unsecured debts, you may feel like you’re drowning. Debt settlement could be the answer.

But how much are the fees for debt settlement? And will you have to pay anything upfront? Let’s take a look.

Key points

  • Debt settlement companies charge fees that range from 15% to 27% of your total enrolled debt
  • Legitimate debt settlement companies cannot and will not charge upfront fees
  • You don’t pay until you approve the settlement offers
  • The total you’ll pay depends on several factors including your total debt, the debt settlement company you choose and where you live
  • Avoid any company that tries to make you pay before your debts are settled
  • If done correctly, debt settlement could save $2.64 for every $1 in fees paid

Debt Settlement Companies Don’t Charge Upfront Fees

Here’s the good news: You don’t have to pay a debt settlement company for services until your debts have been settled. In other words, you don’t have to pay if you aren’t happy with the settlement offers and don’t approve them.

Pro tip: You will have to send a payment to the debt settlement company each month that will go into a savings account earmarked for paying settlement agreements. This is not a fee, and it remains your money. But the debt settlement company holds it in escrow on your behalf. This way it has evidence to show creditors that you can and will pay the negotiated settlement.

Debt Settlement is Not Expensive

Debt settlement can actually be the cheapest way to get out of debt. 

According to a 2020 report from Harvard’s John F. Kennedy School of Government:

  • Debtors will save an average of $1,700 after fees on each settled account
  • A customer with an average of 6.68 settled accounts will save an average of $5,800 after fees.

Here are some of the reasons behind the savings:

You Don’t Pay Until Your Debts are Settled

Federal law prohibits debt settlement companies from collecting upfront fees before your debts have been settled on your behalf. 

The Federal Trade Commission’s (FTC) Telemarketing Sales Rule specifies what a debt settlement company must provide any prospective customer.

Under this law, a debt settlement company cannot charge you until the following conditions have been met. The company must:

  • Settle at least one of your debts
  • You must formally agree to the terms of any settlement deal (these cannot be pre-approved)
  • At least one payment must be made to the creditor or debt collector based on the settlement deal
  • If you have credit card debts with multiple issuers and the debt settlement service settles one of them for you, it can only charge a fee proportional to the debt that it settled.

For example, if you owe $10,000 to four different creditors, and the fee is 15% of the total debt settled, the company can only charge you $1,500 after it has settled a debt with one of the four creditors (or a quarter of the total settled debt.) With each subsequent settlement, the company should charge the same percentage.

Debt Settlement Companies Charge a Flat Rate

Don’t avoid debt settlement because you aren’t sure how much debt settlement companies charge. Instead, schedule a free consultation.

A legitimate debt settlement company will charge you between 15% and 27% of the total debt enrolled in the program. This probably sounds like a lot, but in exchange, you’ll repay significantly less than what you owe when you enter the program. 

Pro tip: Rates vary from state to state, which is why it’s so difficult to find a fixed fee structure.

According to the American Association for Debt Resolution, debt settlement saves consumers $2.64 for every $1 in fees paid. 

How much you’ll pay depends on several factors including your total debt, the debt settlement company you choose and even the state where you live.

READ MORE: Is debt settlement the fastest way to get out of debt?

You Will Solve Your Debt Problems Without Paying the Full Amount You Owe

Sometimes creditors would prefer to get a partial payment than no payment at all (which is what would happen if a debtor files for bankruptcy.) This makes them willing to negotiate. 

You Will Know the Total Cost Before You Commit

The FTC’s Telemarketing Sales Rule also mandates a few things any debt settlement company must disclose before you sign up for service. These are:

  • The fees, any conditions and terms of service
  • How long it will take to get results: In other words, how many months or years before it will make an offer to each creditor for a settlement
  • Any potential negative consequences of stopping payments to your creditors (if the program requests that you do this).
  • How much money you must accrue in your dedicated savings account before the company makes an offer to each creditor on your behalf

Debts Can Be Settled for Free

You don’t necessarily have to pay anything at all for a debt settlement program because it is possible to negotiate these settlements on your own. If you have a thick skin, are willing to put in the research hours and devote several hours a week to the process, DIY debt negotiation can be effective. This isn’t an option for everyone. Negotiations can be tricky, dealing with collection calls is a hassle and making the debt payments requires discipline. Hiring a debt settlement company simplifies the process significantly since they’ve already established contacts with various creditors and know which creditors will be willing to settle.

READ MORE: Best debt settlement companies

Watch Out for Scams

Debt settlement companies are forbidden from making untrue claims, so if a company makes promises that sound suspicious (for example, settlements within days or a process completed within three months), find a different company.

Other Warning Signs

  • Attorney partnerships: Debt settlement companies have partnered with attorneys, who are not banned from charging upfront fees. Research to ensure that any attorney you choose isn’t simply acting as a front for a debt settlement company.
  • In-person meetings: Some firms try to lure prospective customers into physical offices so the Telemarketing Sales Rule does not apply. The rule also does not apply to clients found via the internet, though any phone interactions would fall under this rule. 

Before you hire a debt settlement company, check out the Better Business Bureau ratings, look for complaints with any local consumer protection agency and check with your state attorney general’s office to ensure that the company is not a scam.

READ MORE: How much does a debt settlement lawyer cost?

How the Debt Settlement Process Works

A debt settlement company will negotiate with your creditors to “settle” debts on your behalf. Typically, according to the American Association for Debt Resolution, they will save you about 30% of the total debt you enroll after you pay the company’s fees. If your unsecured debts have spiraled out of control, this can be an excellent way to get your finances back on track without paying the full amount you owe.

Pro tip: The American Association for Debt Resolution was formerly known as the American Fair Credit Council (AFCC).

The company will ask you to stop making payments on your enrolled debts. This will cause debt collectors to call (if they aren’t already), and you’ll rack up late fees. It will have some impact on your credit score (more on that later.)

After your initial consultation, the debt settlement company will tell you to stop making monthly payments on your unsecured debts. 

Why stop payments? The reason is simple. Most creditors won’t consider settling debts until the account is charged off.

READ MORE: How to choose a debt settlement company

Pro tip: Charged off means that the lender has given up hope that your debt will be repaid, and has notified the three credit bureaus (Equifax, Experian and TransUnion) that you’re in default. Charge-offs are noted on your credit report, will significantly hurt your credit score and do not release you from the obligation to repay the debt. 

Your Role In Debt Settlement

The debt settlement company will likely tell you to stop making payments on any unsecured debts that are eligible for settlement. Instead, you will have to deposit a specific amount of money each month into a bank account. Once enough money has accumulated, the firm will start negotiating settlement offers with credit card companies and or debt collection agencies. Once debt settlement agreements are reached, they will be repaid using funds from the escrow account, either over a specific term or (less frequently) in one lump-sum payment.

Pro tip: You will keep making monthly payments on any debts that are not eligible for settlement, and routine monthly bills like rent and utilities.

READ MORE: Is it better to settle a debt or pay in full?

Debt Settlement is Effective

According to findings from the Consumer Federal Protection Bureau’s Consumer Credit Panel, between 2007 to 2019, nearly one in thirteen consumers with a credit record had at least one account reported by the creditor as settled or with payments managed by a credit counseling agency.

The report also shows that during the Great Recession, debt settlements rose dramatically to a peak of $11.4 billion. The majority of these settlements happened within a year of the account becoming delinquent. 

READ MORE: Pros and cons of debt settlement

Which Types of Debts are Eligible for Debt Settlement?

Only unsecured debts are eligible for debt settlement. This includes debts like credit card bills, personal loans, medical bills and some private student loans. But it won’t work for some unsecured debts, including child support, alimony and back taxes. Secured debts like home and auto loans are not eligible for debt settlement programs.

Who Qualifies?

Anyone who can’t make their minimum payments, is currently experiencing financial hardship, or has an overwhelming amount of debt is a good candidate.

READ MORE: Debt settlement qualifications

Want to try debt settlement on your own? Here are a few tips

Don’t Worry Too Much About Your Credit Report

Many people shy away from debt settlement because they’re worried about the negative impact on their credit score. Debt settlement will initially cause your credit score to drop, but the damage may not be as significant as you fear.

When you enter a debt settlement program, the company will ask you to stop making payments on your enrolled debts. This will cause debt collectors to call (if they aren’t already), and you’ll rack up late fees. 

These missed payments will cause your credit score to go down. However, if you’re overwhelmed by debt, you likely have already established a pattern of late payments and high credit utilization ratios, so your credit score will already be damaged. If your credit score is already below 600, the debt settlement impact will likely be negligible and will be worth it once you can start rebuilding your credit score.

How much your score will drop depends on your credit score when you start a debt settlement program. Borrowers with the highest credit scores will see the biggest declines.

READ MORE: How does debt settlement affect your credit score?

Pro tip: The Internal Revenue Service (IRS) may count any forgiven debts as taxable income, so you may not save as much as expected when income tax time rolls around. However, there are often exceptions for people who aren’t financially solvent.

Other debt relief options

  • Credit counseling agency: Nonprofit credit counseling agencies will offer free consultations and financial counseling. For a fee, they will also set up a Debt Management Plan, which involves contacting your creditors to negotiate lower interest rates and better terms. The difference between Debt Management Plans and debt settlement is that you will repay the full amount you owe, and instead of paying a lump-sum fee per debt settled, you’ll pay a monthly fee ranging from $25 to $75.
  • Debt consolidation: Many legitimate debt settlement companies will also assess whether you’re a good candidate for debt consolidation. This involves getting a new, larger loan at a lower interest rate and using the loan money to pay your other debts, consolidating everything into one loan with one monthly payment.
  • Credit card balance transfer: This is another debt consolidation method, only instead of applying for a new loan, you apply for a new credit card that offers a promotional 0% APR. You then transfer your existing debts to the new credit card and pay down your debt during that introductory period. 
  • Chapter 7 bankruptcy: Chapter 7 is known as “liquidation” bankruptcy and is a quick and simple way to discharge unsecured debts. However, not everyone will qualify because filers must pass a “means test.” And there will be at least some costs associated with filing, including mandatory credit counseling and some court fees.

READ MORE: Step-by-step guide to debt consolidation

The Bottom Line

Debt settlement may sound expensive, but it’s actually one of the most inexpensive ways to get out of debt.

Whether the debt settlement fees are worth it for you depend on a few different factors. including your financial situation, the amount of debt you have, your credit score and the odds that you can qualify for a debt consolidation loan. 

But if debt consolidation doesn’t work, debt settlement will be your best alternative.


How Does a Debt Management Plan Work?

A nonprofit credit counseling agency designs a Debt Management Plan (DMP) to help individuals repay their debts in an organized way. A credit counselor creates a repayment plan that consolidates multiple debts into a single monthly payment, often at a lower interest rate or with waived fees. You will have to close your accounts, so it will affect your credit score, and there will be a monthly administration fee ranging from $25 to $75 per month.

What Are Some of the Pros and Cons of Debt Settlement?

Pros of debt settlement include faster debt resolution, lower total repayments and lower monthly payments. The primary con is that there’s no guarantee that a creditor will be willing to settle. However, a legitimate debt settlement company will have an idea of which creditors are willing to settle and will be able to assess your odds during your initial free consultation.

Do I Need a Debt Settlement Attorney?

Probably not, unless you’re facing a specific legal issue. For example, if you’ve already received a court summons, have had wages garnished by a judge or you believe debt collectors or debt collection agencies have broken the law, it is likely worth consulting with a debt settlement attorney. Otherwise, simply ask any debt settlement company you’re considering whether it offers legal help if complications arise during the settlement process. If the answer is yes, you’re covered.

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