A Shocking Peek Inside the Seedy World of Debt Settlement Companies


For-profit “debt settlement” or  “debt reduction” companies promise to settle debt for pennies on the dollar, stop harassing phone calls, and consolidate debts into “one low monthly payment.”

Sound too good to be true?  It usually is.

Read on for a shocking glimpse into the seedy world of for-profit debt settlement companies.

What debt settlement companies supposedly do

Debt settlement companies supposedly negotiate on your behalf to settle your debt for less than you actually owe.  The idea is that the debt collectors would rather get something from you than nothing.  The debt settlement company is supposed to use its negotiating skill to work out better settlements than you could yourself.  For this, they usually charge a fee of around 15% of your debt plus various service fees, which sounds okay if they’re reducing your debt by 40-60%.

What many debt settlement companies actually do

The federal Government Accountability Office (GAO) conducted an investigation into debt settlement companies by posing as consumers.  What they found was shocking.  Around 90% of debt settlement companies don’t deliver what they promise, and 17 out of 20 companies they contacted were using fraudulent or deceptive practices.

In particular the debt settlement companies the GAO investigated were:

1) Charging advanced fees for results that usually don’t happen

Only 1 company out of the 20 was not charging advanced fees.  A debt settlement company charges advanced fees when they charge people before they actually settle any of their debt.

The Federal Trade Commission (FTC) has called advanced fees “unfair,” “abusive” and would like to ban the practice completely. One of the main reasons why the FTC looks so harshly on advanced fees is that the likelihood of debt settlement working out is very low, and so most advance fees will be collected for nothing.

Debt settlement companies aren’t necessarily transparent about their advanced fees either, so a consumer could be making payments for months, not knowing that it’s all going to directly to the debt settlement company as fees instead of paying down debt.

2) Misrepresenting success rates as high when they’re very low

Many debt settlement companies were misrepresenting their success rates (success is defined as when a consumer receives the results that the debt settlement company promised).  Federal and state studies show that success rates for debt settlement companies are somewhere in the single digits, yet companies routinely advertise success rates as high as 90%+.

3) Telling consumers to trash their credit scores by paying the debt settlement company instead of creditors

17 of 20 debt settlement companies  told investigators to stop paying creditors.  The problem with doing that is it could seriously harm a consumer’s credit score (FICO score).  Naturally, debt reduction companies have an incentive to push people to stop paying creditors, that way what little money the consumer has left goes to paying advanced fees.  A lower credit score might also make debt collectors more likely to accept a settlement offer.

4) Representing to be part of, or endorsed by, the government when they’re not

Many companies claimed to be a part of, or insinuated that they were part of, some kind of government program.  Others proudly displayed The Association of Settlement Companies (TASC) as if it were some kind of law enforcement agency, when in fact it’s just a non-profit lobbying organization for debt settlement companies.  In reality, there is no government stimulus plan that allows consumers to settle credit card debt for less than they owe.  It’s purely up to creditors if they want to negotiate with you, and if they don’t, they can always sue you, even after you’ve paid thousands to the debt settlement company.

The Better Business Bureau (BBB) and debt settlement companies

If the GAO’s investigation weren’t bad enough, here’s another strike against the debt settlement industry as a whole: the BBB has gotten so many complaints about debt settlement companies that it has designated them as “inherently problematic,” along with companies that sell payday loans, scientifically-unproven medical devices and get-rich-quick seminars.  As a result, it’s impossible for any debt settlement company to earn a BBB rating of greater than a “C-“; that is, unless they meet a set of  criteria that no debt settlement company has ever met.

The TASC isn’t very happy about this and argues their “secret shopper” program keeps debt settlement companies in check.  I guess the TASC’s secret shoppers are shopping at different places than the GAO’s secret shoppers.

So what should you do if you’re in debt?

One thing the GAO investigation uncovered is that many of these debt settlement companies are just marketing fronts (online or even in strip malls).  They sign you up, and then supposedly farm out the work to lawyers.  This setup encourages debt company reps to say whatever it takes to sign up you, since it means a fat commission check for them.

Who knows whether these companies actually give the work to lawyers, but a good idea is to speak with a reputable debt settlement lawyer directly.  Unlike many debt settlement companies that are living in the wild west, free of any real regulation, lawyers are held to high standards of professional conduct.  A good debt settlement lawyer will be able to explain your options, and more importantly, you’ll be able to trust the advice you’re given.

Negotiate with creditors yourself

If you’re unable or unwilling to go see a debt settlement lawyer, financial guru Suze Orman recommends that you try to negotiate with your creditors yourself.  Beware, though, because as Suze mentions, things like how you make payments or the words you write on checks can affect your rights.  Because of all these little details that can cause problems, it’s best to have a lawyer advise you.

Visit a reputable, non-profit consumer credit counseling service

There are non-profit consumer credit counseling services that can help you create a plan to get out of debt, but beware – even non-profit consumer credit counseling services can be crooked.  The FTC warns, “But remember that ‘nonprofit’ status doesn’t guarantee free, affordable, or even legitimate services. In fact, some credit counseling organizations — even some that claim non-profit status — may charge high fees or hide their fees by pressuring consumers to make ‘voluntary’ contributions that only cause more debt.”

To find a reputable consumer credit counseling service, ask your local or state government for a recommendation, or go to an attorney for a referral.

The future of for-profit debt settlement

Luckily certain states are tightening regulations around for-profit debt settlement companies.  For example, Arkansas and Wyoming have more or less banned them.  Other states like Virginia have enacted strict rules, while Illinois is about to do the same.  Look for this trend to continue at the federal and state levels.

Odds are that law makers will clean up the debt settlement industry eventually, but for now it’s a total mess.