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How to Get Out of Debt Faster, Part 2

Use these tactics to reduce your debt balances ahead of schedule so you can save money and build wealth instead.

By
Laura Adams, MBA,
Episode #255

How to Settle Debt for Less

Another way to reduce your debt is to settle it for a lower amount. This is a common tactic if you’re already behind on unsecured debts, like credit cards or medical bills.

To settle a debt, contact the lender or collections agency and ask to speak to the accounts receivable or collections department. Never hide from a creditor when you’re having financial troubles. You’ll get much more favorable treatment if you’re honest about your situation and express a willingness to find win-win solutions.

If you have cash to pay a lump sum amount, that’s a powerful negotiating tool. Offer to pay 25% of the full debt—perhaps they’ll meet you in the middle at 50% of what you currently owe. Many creditors would rather get half your debt in cash, rather than risk getting nothing down the road—especially if your debt is old.

Should You Use an Attorney?

If you don’t feel comfortable negotiating a debt settlement on your own, there are professionals who can help. An attorney can facilitate a negotiation, help you understand the best options for dealing with debt in the state where you live, and keep a creditor from harassing you or engaging in illegal collections practices.

Should You Use a Credit Counselor?

Some credit counseling agencies can reduce your debts through a formal agreement with your creditors called a debt management plan. The idea is that the agency negotiates lower payments on your behalf and then you send the agency one monthly payment that they distribute to your creditors according to the prearranged schedule.

There have been scams and fraud associated with some credit and debt organizations, so don’t send any money to an agency until you know they’re legit. To find one that’s reputable, do your homework and make sure they’re approved or certified by one or more of the following organizations:

To further protect yourself, always confirm a debt management plan directly with your creditors. Also, track the balances on your bills carefully so you know if the agency is sending the right amounts to your debts each month.

The fees charged by attorneys, credit counselors, and debt arbitrators vary widely, so always ask to see a written list of their services and prices. In many cases you can do exactly what they do for free—but you have to be the judge.

Is Cancelled Debt Taxable?

If you or a professional is successful in settling any amount of your debt, remember that cancelled or forgiven debt is generally considered taxable income. Expect to receive a Form 1099-C at the end of the year to use when filing your tax return.

However, you can avoid paying the tax if you were insolvent at the time of the debt cancellation. Insolvency means that your total debts are more than the fair market value of your total assets. Many people who are likely to meet an insolvency exemption don’t know it and they end up paying too much tax.

If you’re not sure if you qualify for insolvency or think you overpaid tax on canceled debt in any of the 3 previous tax years and may qualify for a refund, be sure to consult with a tax accountant.

There’s also a temporary exception for mortgage debt that’s forgiven from 2007 through 2012. Read What You Need to Know About Forgiven Debt and Taxes for more information.

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About the Author

Laura Adams, MBA

Laura Adams received an MBA from the University of Florida. She's an award-winning personal finance author, speaker, and consumer advocate who is a trusted and frequent source for the national media. Her book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show. 

 

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