New rules for debt relief companies
Starting this week, debt settlement and other for-profit debt relief companies will have to start toeing the line.
Debt settlement companies negotiate with credit card companies and other creditors to lower the principal amount you owe, then -- after you've built up enough money -- pay off your debts in a single lump sum. This is not the same as credit counseling, which typically involves putting clients on a debt settlement plan, negotiating lower interest rates and payments, then paying the debt off in full with monthly payments over three to five years.
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I've written about both debt settlement and credit counseling extensively. In general, I prefer nonprofit credit-counseling companies and advise people to steer clear of debt-settlement companies. If you want to know why I think debt settlement offers more hype than hope, check out posts I've done just this year, which are listed below.
Here's the gist: The bad apples in the barrel -- and there are many -- promise things they have no intention of delivering, charge too much to do too little, and utterly vaporize your credit history in the process.
- Quick quiz: Is your credit score a wreck?
Last summer the Federal Trade Commission finally stepped up to the plate and drafted new rules affecting most for-profit debt-relief services, including credit-counseling, debt- settlement and debt-negotiation companies. These changes will hopefully help save hapless consumers from abuse, and may even put some of the sleazier services out of business. Here's when the new rules take effect and the basics of what they mean.
According to the FTC, the new rules:
- Require debt-relief companies to make specific disclosures to consumers.
- Prohibit them from making misrepresentations.
- Extend the Telemarketing Sales Rule to cover calls consumers make to these firms in response to debt-relief advertising.
What this means in plain English is that debt-settlement and similar for-profit companies can't overstate the success of their programs, and they must disclose potential negative side effects.
For example, many debt-settlement companies have in the past assured consumers that settling a debt won't negatively impact their credit scores. This is complete hogwash. Paying less on a debt than is owed will nearly always lower your credit score, as well as create potential income tax issues. For more examples of the false promises some debt-settlement companies routinely employ, see this story.
While telling the truth may prove difficult for some of the shadier debt-relief companies, the new rules that take effect Oct. 27 are really going to hurt. Because rather than charge up front for their services like many typically do today, they’ll have to wait until at least one of the following occurs:
- The debt-relief service successfully renegotiates, settles, reduces, or otherwise changes the terms of at least one of the consumer’s debts.
- There is a written settlement agreement, debt-management plan, or other agreement between the consumer and the creditor, and the consumer has agreed to it.
- The consumer has made at least one payment to the creditor as a result of the agreement negotiated by the debt-relief provider.
In other words, until a debt-settlement or other company actually performs, they don't get paid. Another rule that will go into effect on Oct. 27 requires them to keep all customer funds in a segregated, insured account.
Remember: These rules apply only to for-profit companies. And don't think for a minute the new rules will stop wrongdoing. After all, we're talking about companies that, at least in some cases, take complete advantage of the broke, innocent, and desperate -- in other words, companies not typically impressed by rules.
My advice? If you're in debt trouble, avoid debt-settlement companies or any other kind of for-profit debt-relief organization. Instead, talk to a high-quality nonprofit credit counseling organization (try one that's a member of the National Foundation for Credit Counseling or the Association of Independent Consumer Credit Counseling Agencies) or a bankruptcy lawyer.
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