Advertisements for debt relief services such as debt consolidation, debt negotiation, debt settlement, and debt management are all over the Internet, radio and television. In some instances, these companies are scams. In others, the services offered are expensive and leave you worse off than before you started. Luckily, the federal government (in the FTC Telemarkting Sales Rule) and some states have enacted regulations that provide some protection from the worst of the scams. But you can still land in hot water using debt relief services, so tread carefully.
Below you can learn about debt relief services and the recent regulations affecting them.
Types of Debt Relief Services
In recent years the debt relief service business has boomed. These services include:
- Debt management or credit counseling services. These companies claim they can arrange a plan to pay back your creditors, often with reductions in interest rates or other favorable terms so you can afford repayment. (Learn more about debt management services.)
- Debt settlement companies. These companies (also called debt pooling or prorating services) claim they can greatly reduce your debts, often by 50% or more. They operate by negotiating with your unsecured creditors to get them to accept a reduced lump sum or fewer payments to pay off your debt. They usually ask or require you to make regular payments into an account with a bank from which they collect their fee and pay the creditor when enough money has accumulated.
- Debt negotiation companies. These companies claim they can get creditors to reduce your regular payments, but do not necessarily create an overall plan like credit counselors do. (Get more information on how debt negotiation companies work.)
Scams Abound in the Debt Relief Industry
The Federal Trade Commission and state attorneys general have sued hundreds of these companies for misleading consumers about what the company can accomplish or how much its fees really are, and for violating consumer protection laws or specific state laws governing debt relief services. The IRS has ended the nonprofit status of a number of so-called nonprofit credit counseling companies that were making profits, either directly or through affiliates.
No matter what they call their services, many debt management/settlement companies generally produce poor results and charge very high fees and interest rates. They siphon off your limited resources in debt consolidation charges, pay only a few (if any) creditors, and jeopardize much of your property. What’s more, many do not deal with your secured debts, which often are (or should be) your highest priority for repayment. These companies often induce people to devote precious resources to paying unsecured debts when folks should be using that money to pay secured debts.
Many debt negotiation companies claim that they can negotiate with creditors on your behalf, promising substantially reduced payments and an end to collection calls from creditors. They charge hefty fees for this service, which most consumers can do on their own. Instead of helping you obtain relief and work your way out of debt, the debt negotiator may leave you with even more negative information in your credit report and being sued by collectors. In extreme cases, companies reportedly have used consumers’ money to pay the company’s operating expenses instead of paying the consumers’ creditors.
Even if the company provides the services promised, you’re better off using the money you would spend on the high fee to make payments to your creditors. (To learn how to settle debts and negotiate with creditors on your own, see our Debt Settlement & Negotiation area.)
Federal and State Regulations of Debt Relief Services
Almost all states regulate debt relief companies, and some states prohibit debt settlement companies from doing business. (Although these state laws usually don’t apply to lawyers and merchant-owned associations claiming to help debtors.)
In addition, as of October 27, 2010, the Federal Trade Commission revised its Telemarketing Sales Rule to offer some limited protection against abusive for-profit debt relief companies.
What Companies Must Comply With the New Federal Rules?
The federal rules don't apply to every debt relief service business. They only apply to:
- for-profit companies
- services related to unsecured debts,
- and services rendered after the debt relief company calls you or you call in response to an ad, not if the company communicates with you through the Internet or the mail.
New Disclosure Rules
Before you have to pay any money, the rules require debt relief service companies to disclose:
- how long will be needed to get the claimed results
- if the service includes a settlement offer, the date by which the company will make a settlement offer to any of your creditors, and the time by which it will make an offer to all of them
- the amount of money or percentage of each debt you will have to have accumulated before the company will make an offer
- if the service depends on you not timely paying creditors, the likely negative effect on your credit rating, the fact that you may be sued by creditors or debt collectors, and that the amount you may owe may increase because of interest and fees, and
- your right to cancel the contract for services and receive a refund within seven days of any money (not owed for services already provided) held in an account.
Limits on Collecting Fees & Fee Amounts
Most important, the new rules prohibit a company from collecting fees from you (or your account) until it has obtained an agreement to reduce at least one debt and you have made at least one payment on that agreement. The rules also place guidelines on fee amounts.
This is an excerpt from Nolo's Solve Your Money Troubles: Debt, Credit & Bankruptcy, by Margaret Reiter and Robin Leonard.