Debt settlement pros and cons: Is it the right move for you?

Plenty of Americans struggle to pay down debt — from credit card debt to personal loans and car loans — and rising balances can quickly catch up with your ability to pay.

As of the third quarter of 2025, Americans held a total $5.09 trillion in non-housing debt, according to the latest Federal Reserve Household Debt and Credit Report. And that debt is rising for many Americans: Not only has total non-housing debt increased by $130 billion over the past year, but transitions into delinquency, including serious delinquency (90 days overdue or more), are also on the rise.

If your debt is growing beyond what you can handle, debt settlement could be an option — especially if you don’t qualify for alternatives like consolidation with a personal loan or balance transfer credit card. But debt settlement can also carry long-term effects for your financial situation.

Is debt relief a good idea?

When you work with a debt settlement company or debt relief company, you’ll typically pay a fee for the company to negotiate with your lender or creditor. The goal of the negotiation is to settle your debt for less than you actually owe.

Throughout the negotiation process, you may make payments into an account designated for the settlement. This is a bank account that you own — not one managed by the debt relief company. At the same time, the debt settlement company may advise you to stop making payments toward your debt.

If no settlement is reached, that means you’ll owe penalties and late fees on your debt balances that accrue as a result of your missed payments. If the debt relief company does reach a settlement with your lender, they’ll use the money you’ve saved in the dedicated bank account to pay the negotiated amount in a lump sum.

Debt relief may work for some people, but it’s also risky. Before working with a debt settlement company, it’s a good idea to call your lender or issuer yourself. You may be able to negotiate a reduced balance or settlement on your own, without the fees involved with a third-party company.

Pros of debt settlement

Negotiate your debt

In theory, a debt settlement company helps you get out of debt by taking on negotiations with your creditors. This could result in you paying less than you actually owe to settle your debt. You’ll save up throughout the negotiation so you have a lump sum payment to make and reduce the overall debt you owe.

If you don’t have a plan for dealing with your debt and your credit prevents you from qualifying for other options — like debt consolidation — debt settlement may be worth considering.

You can avoid bankruptcy

When your debt balances seem insurmountable, bankruptcy may be a last resort. Bankruptcy can have long-lasting consequences for your finances. It stays on your credit report for up to 10 years, which can make it difficult to get a mortgage, qualify for a loan, or open a credit card.

But you may be able to avoid bankruptcy if a debt settlement company can successfully negotiate a lower balance or new terms to help you pay down your debt.

As an alternative, you may want to speak with a credit counselor, who can help you develop a plan to manage your debt and work with your creditors. Look for reputable credit counselors through nonprofit organizations such as the National Foundation for Credit Counseling, which often offer services at low or no cost.

Cons of debt settlement

Your lender may not work with the debt settlement company

One of the biggest risks of working with a debt settlement company is the chance that they cannot reach a settlement for your debt. Creditors are not obligated to work with debt settlement companies, so the company may not be able to negotiate any settlements or only settle a portion of your debt.

If the debt settlement company cannot come to an agreement with your lender or debt collector and you’ve stopped making payments throughout the negotiation process, you could be worse off and have a higher balance than when you began.

Late fees and interest will continue to accrue on your debt throughout the negotiation process. So if the negotiation doesn’t end in a settlement from all your creditors, you’ll now have months, or even years, worth of additional fee charges.

You may also continue to get calls from debt collectors while you’re working with a debt settlement company. Be wary of any company that says it can stop all debt collection calls or lawsuits.

Fees

Fees are another major factor to consider before you opt for debt relief. Always make sure you understand the fees you’ll be charged before you agree to work with a debt settlement company — and avoid companies that charge upfront fees before settlement.

According to the Federal Trade Commission, you may be charged either a portion of the amount of debt that’s resolved or a portion of the amount the company saved you. For example, let’s say you have $20,000 in debt and a debt settlement company successfully negotiates with your creditor. If the company charges a 20% fee for the resolved $20,000, you could owe $4,000 in fees.

Credit score damage

Even if you avoid the credit impact of bankruptcy, debt settlement could still have a negative effect on your credit score.

If a debt settlement company asks you to stop making payments toward your debt, you can quickly rack up late fees, penalties, and interest charges. Creditors report late or missed payments to the credit bureaus, and that negative information remains on your credit report for up to seven years. With a credit card, accumulating interest charges will also increase your balance, which can have a negative impact on your credit utilization.

Debt relief scams

While legitimate debt settlement companies can help you deal with mounting debt balances, there are plenty of debt relief scammers who could take advantage of your situation.

If any company makes unrealistic promises like guaranteeing to eliminate your debt or charges you upfront fees, they’re probably not going to be a reputable option. Fees, in particular, can be a major red flag to look out for when you’re considering debt settlement.

You should never pay a debt settlement company before they actually settle your debt. In fact, the Consumer Financial Protection Bureau (CFPB) specifies that a debt settlement company could be in violation of the law if they charge you fees before doing these specific things:

Successfully negotiated, settled, or reduced your debts
Made an agreement between you and the creditor
Waited for you to make at least one payment to your creditor after the agreement

Other ways to manage your debt

If debt settlement feels too risky, there are alternatives that may help you regain control of your finances. These options can be less damaging to your credit and offer more predictable outcomes, especially if you’re still able to make at least minimum payments.

Work with a credit counseling agency to create a debt management plan. With a debt management plan, a nonprofit counselor works with your creditors to lower interest rates or waive certain fees, then rolls your payments into a single monthly amount. You still repay what you owe, but often at a slower pace and lower cost — and without stopping payments or defaulting. The CFPB offers a comprehensive guide to finding and working with a credit counselor.
Consolidate your debt by taking out a personal loan or using a balance transfer credit card to pay off multiple debts at once. This can simplify repayment and potentially lower your interest rate, but it works best if you have decent credit and a plan to avoid accruing more debt later. Debt consolidation doesn’t reduce what you owe, but it can make debt easier to manage.
Hardship programs or direct negotiations with creditors may be worth exploring. Some lenders offer temporary forbearance, reduced payments, or fee waivers if you’re experiencing financial stress. These programs can provide breathing room without the long-term credit damage that often comes with debt settlement.

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Original Source At Yahoo Finance

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Original Source At Yahoo Finance