This isn't a topic I've ever written about before, nor is it one that the vast majority of my readers will ever need. However, a select few may, and many readers will know somebody who can use this knowledge. I had an advertiser apply to buy an ad on the site recently that I turned down. That in and of itself is not unusual, as I probably turn down about 2 out of 3 prospective advertisers. The company's business model was to call up your creditors, use some “negotiation techniques” to negotiate a settlement on your debt, and then keep part of the difference for their trouble. I thought that rather than sell an ad to a firm like that, it would be better to just teach you these fancy “negotiation techniques.” That's what this post is.
Unsecured Debt Only
First, you should be aware that these techniques mostly only work for unsecured debt. The issue with secured debt is that your negotiating position is terribly weak. For example, if you're behind on your mortgage, and you call up the lender and offer to pay them $100,000 of the $300,000 you owe them if they will accept it as payment in full, they're going to laugh their head off, say “no”, and initiate foreclosure proceedings. It will be the same thing with a car, boat, or airplane. In fact, it probably won't even work very well with student loans since you can't get out of those in bankruptcy, although perhaps a bit around the edges. This really only works well for unsecured loans like credit cards.
Your Credit Will Take a Hit
Settling debts for less than you owe will show up on your credit report. Before resorting to techniques like this, you should already have a terrible credit score because you have debts that you haven't been paying on already for some time. That score is going to get even worse, at least temporarily, because the accounts are going to be marked as having been settled for less than you agreed to pay. Now, it isn't as bad as a bankruptcy, and perhaps not even as bad as a foreclosure or repossession, but it is still a pretty big black mark on your credit report and score. As a general rule, the technique works best once your bad debt has been sold to a collection agency.
The Technique
So what are these fancy negotiation techniques? They are basically offering the creditor something now instead of possibly nothing, but perhaps something later. Imagine you owe a bank $10,000 in credit card debt. You haven't paid on it for 18 months. They've sold it to a collection agency for 5 cents on the dollar. Now, you call up the collection agency, and you offer them $2500 today to settle the debt. They see it as a 400% profit on their investment, and it is a way to get the debt off your back for much less than you actually owe. It is a win-win. If they're dumb and say no, you tell them you'll just move on to your next creditor with that $2500 and they'll get nothing any time soon and maybe ever. Most of the time, they will accept 25, 30, or 50 cents on the dollar to settle your debt.
The Caveats
There are a few caveats to this technique. First, it's not going to work if you make $300,000 a year and have a net worth of $200,000, although I suppose it might be possible to hide those facts. But if that's really the position you are in, you should probably just pay the debt and move on with life. Second, never give them direct access to your checking account. If you think financial advisors and insurance agents have low ethical standards, debt collection folks are an order of magnitude worse. They will simply clean out the account, put it up against the debt, and come back asking for the rest. Third, you need to have it IN WRITING (email is okay) that they will accept this as payment in full. Keep that letter or email in your files forever. Apparently, they occasionally come back and try to collect again.
Some Variations
You might have secured debt but the security is worth less to the creditor than what you owe. For example, if you have a mortgage of $300K on a house that's worth $250K (and maybe $200K by the time the bank gets it fixed up and sold), then in reality you have a $200K secured debt plus a $100K unsecured debt. You might very well be able to negotiate a settlement for $220K in that sort of situation if you can convince them you do not have the ability to (or will not) make payments. Not making them for a few months is a good way to convince them of that fact. You might also be able to use this technique to eliminate additional interest, fees, and penalties. The IRS, for instance, settles debts all the time despite having the ability to garnish your wages. That's because IRS debts go away in Chapter 7 bankruptcies. Even a student loan lender might be willing to settle some debt with you if they think the alternative is getting nothing. Many times they will offer to wipe out penalties and interest if you can bring payments current again. When the alternative for them is getting nothing any time soon and your credit is already trashed, you have all the power in the negotiation.
Persistence Matters
This isn't an instantaneous process. It will likely require multiple phone calls over weeks or months. It won't be pleasant, but neither is getting phone calls and letters from collection agencies. But it certainly isn't complicated and isn't worth entering the scam-filled world of debt settlement companies to try to get someone else to do it for you.
What do you think? Have you ever settled a debt for yourself or a loved one? What was the process like? What kind of a discount did you end up with? How long was your/their credit affected? Any tips you would add? Comment below!
1st Comment! I have nothing to say on this but just wanted to be the first comment. Sweet.
Is it really that hard to be the first commenter around here? Just swing by about 1 am and that should do the trick.
Ha! I live on Oahu and often see your post with no comments when I’m reading at home at night. Didn’t realize it was an opportunity. Sadly I mostly lurk and read your thoughts, and don’t really have much to add that others would find interesting… much like this comment
🙂
Thanks for what you do out there. Despite the fact that everyone thinks you’re just in paradise all the time, lots of people get island fever after a few months out there.
Two tax-related comments:
1. It’s not been my experience that IRS settles debts for less than 100% “all the time.” (“Offer in compromise” isn’t an area I practice in, but I’ve seen the process up close and will note that you do make full disclosure of your finances at start of process.)
2. Cancelled debt typically counts as income, which means you are taxed on the forgiven amount. (Some exceptions to this such as when you’re insolvent or going through bankruptcy.) A minor point but worth remembering…
I guess we can argue about what “all the time” means, but here’s an official IRS source:
https://www.irs.gov/individuals/offer-in-compromise-1
An offer in compromise allows you to settle your tax debt for less than the full amount you owe. It may be a legitimate option if you can’t pay your full tax liability, or doing so creates a financial hardship. We consider your unique set of facts and circumstances:
Ability to pay;
Income;
Expenses; and
Asset equity.
We generally approve an offer in compromise when the amount offered represents the most we can expect to collect within a reasonable period of time.
Here’s another good article on the subject with some actual numbers which would suggest this is relatively rare to actually get an OIC accepted:
https://www.aicpastore.com/Content/media/PRODUCER_CONTENT/Newsletters/Articles_2014/CPA/APR/IRSoffer_compromiseprogram.jsp
The Government Accountability Office reported that in 2010 more than 16 million taxpayers owed taxes to the IRS, and these numbers have continued to increase. In 2013, despite the millions of taxpayers with debt, the IRS approved only 31,000 OIC applications. In contrast, the IRS had almost 4 million installment agreements in effect in 2013 for taxpayers to repay their balances.
Jim, sorry if my comment was argumentative or seemed that way. You do a great job here! 🙂
I probably have a little different perspective on OIC. Semi-regularly, taxpayers call our offices wanting help because they owe, e,g., $100K or $200K or something they can’t pay. Almost always when we did into these situations, taxpayer makes enough (per IRS point of view) to pay off the balance over time.
As noted, this is not an area we practice in, but my second hand observation is that if a family earns, say, $140K a year, IRS position would be family can live on $40K a year and therefore can use that extra $100K a year to pay current and past taxes, penalties and interest.
I didn’t take it as argumentative. I suspect you’re probably right. My idea of people getting out of making the full payment is a doc’s grandma living on Social Security or a doc’s little sister who is unemployed etc, not the doc herself!
Still, 31,000 people is still quite a few.
What about medical debt? Here is my story, kids got really sick, got a university bill of around 6K. First I just waited for months (probably over a year). Called and asked if they give me a discount if I pay in full, they told me 20%.
After a year or so they sent me to the internal collection agency. I called them up and they offered a standard 25% deduction for the part reported to them. I paid that part.
No one reported any thing on my credit card history since they have not sent to outside collection agencies.
I do feel bad since I definitely have resources to pay.
But is there a better way to negotiate medical debt in future? Any tips? Also if you get sent to an outside collection agency, does that mean it automatically goes in your credit history?
I don’t think it’s automatic. It has to be reported to show up.
I always wonder– if you have the resources to pay and you’ve received the service, why not just pay? It seems like the honest thing to do. Voluntary negotiation/haggling should come before the sale, not after.
The assumption is that it was something that you either couldn’t really skip (think appendectomy) or that your financial circumstances changed dramatically between purchase and payment. But obviously a lot of these situations are just people who bit off more than they can chew.
About 10 years ago, my then-girlfriend ran her major credit cards up to the limit, with no way of making even minimum payments. To my surprise, after the accounts were 60 to 90 days past due, most of the banks proactively sent her offers to settle for 40 to 60 cents on the dollar. Do banks still do this? Or do they routinely turn accounts over to collection agencies nowadays?
Also, I now have a friend who cannot make minimum payments moving forward, but still has good credit. Is she better off negotiating, or just biting the bullet/going through the bankruptcy process?
It depends on if that friend is going to use credit in the future. Having a poor credit score doesn’t matter if you aren’t going to use credit.
I’d try negotiating before bankruptcy. The more desperate your position, the less they’ll be willing to accept. I mean, you’re saying, “I’m about to declare bankruptcy unless you take 10 cents on the dollar. You want that or nothing?”
Can student loans be negotiated like this?
My stay-at-home wife still has a lot of loans. So far all the student loan banks are beyond obtuse for even the most simple requests.
Probably not. Your negotiating position is very weak since they don’t go away in bankruptcy.
Be aware that Common Bond is now refinancing student loans with a co-signer (you) in situations like those of your wife’s.
We were unexpectedly in between jobs twice in 3 years with 2 babies and medical bills in the midst of that, and had to live off of savings/credit cards and move frequently. One credit card bill lost track of us with frequent changes of addresses and was cancelled. Our job situation is now very stable for last 2 years, and earning is fine, have been gradually paying the closed card down but also trying to get still-open high-interest card paid down. The closed one is probably affecting credit most, and despite high earning and equity, we can’t move forward financially, mainly due to low credit score. Should I just bite the bullet and try to negotiate with creditors for reduced amount since credit can’t suffer much more (less than $600), or better to continue paying more gradually, with “boluses” when we can?
If you’re already behind on payments, then no, I wouldn’t make little tiny boluses. I would contact them and offer a settlement and see if they take it. If you’ve been making all your payments, they’re probably not going to make any offers, especially if you have a physician income.