Credit card debt is one of the most pervasive financial issues faced by Americans, with the average credit card balance as of 2016 being $5,551.
If paying off your credit card debt is proving to be a substantial challenge, or worse is making it difficult to pay critical household expenses such as groceries, rent, medical bills or utilities, it may be useful to negotiate your credit card debt with your card providers.
However, if you do choose to try and negotiate your balances and interest rates, don’t expect a road paved with rose petals! It is true that credit card companies will negotiate with you if they feel that you remain a reasonable risk and are likely to repay your debt eventually. However, they would usually prefer not to negotiate, as by holding firm on things like balances and interest rates they will ultimately make the most profit from you in the long run. The key is to negotiate in such a way that makes it clear that negotiation is in their best interest.
There are several established types of credit negotiation, so it is important to understand the basics of each one before picking up the phone to call your credit card providers.
Workout Agreements
In a workout agreement, you request that your credit card company waive or reduce your monthly payment, lower your interest rate, and/or remove past late fees from your balance.
Keep in mind that these negotiations come with downsides that you need to consider before requesting them. We’ll dig into those later.
You should only request a workout agreement if your income is not currently sufficient to make your monthly minimum payments.
Lump-sum Settlements
In a lump-sum agreement, you negotiate with your credit card provider to pay a single large payment to eliminate your balance. This may only allow you to eliminate the interest. In some cases, you can negotiate to pay less than you owe, but you will generally be required to make the entire payment in a single lump payment, hence the name, “lump-sum.” If you can come up with a large amount of cash and can only afford to pay some or most of the balance, this could be a viable option for you.
Debt Management Plans
Debt management plans are typically run by nonprofit organizations. They have a credit counseling agency that works with you to repay your debts. Typically, these programs do charge a management fee. They also require you to allow them to hold your funds and pay your bills directly on your behalf. You will want to do your research and make sure that the organization you are considering is trustworthy and reputable before making any agreement with them or sending them any money. This can be an option for people who struggle with self-discipline and spend the money they should be used to pay their debts.
Debt management plans also generally have certain screening requirements which must be met and require that you be able to repay your debts in 60 months or less to qualify.
Debt Settlement Plans
In contrast to Debt Management Plans, Debt Settlement Plans are usually conducted by for-profit corporations rather than by non-profit organizations. These companies offer to negotiate with your credit card provider on your behalf and get them to agree to a settlement of your credit card balances for less than the amount you currently owe.
The company will then typically request that you pay a monthly payment to them. The company puts the funds into an account and then uses it to repay your debts once an agreement is reached with your credit card provider.
There are very substantial downsides and risks to using a Debt Settlement Plan, and because of this, they should only ever be considered as a last resort before filing for Bankruptcy. You will be charged fees on top of your debt payments, and your credit score will be badly affected, which could make many other things more difficult for you, ranging from renting a home to getting certain jobs or buying a new or used car, not to mention ever taking out another credit card.
As a general rule, if you are at this last resort stage, it is better to try and get approved by a debt management organization first, and only consider for-profit debt settlement plans if you have been rejected by the non-profit organizations who offer debt management.
Risks to consider:
Each of these negotiation options comes with its respective downsides and potential pitfalls. It is important to understand them if you are to navigate these waters successfully.
Workout Agreement Risks
In the case of a workout agreement, your credit card provider will typically slash your credit limit, which may likely make your credit card unusable. Of course, if you are trying to eliminate debt, this is not necessarily a problem in and of itself. However, it will have a domino effect of adversely affecting your credit utilization ratio (the amount of debt you have relative to the amount of credit available), which will generally cause damage to your credit score.
Lump-sum Payment Risks
In the case of a lump-sum payment, the effect on your credit score will be dependent upon how your credit card company chooses to report the payment. They may report it as a “charge-off” or as “settled.” In these cases, it will look like you didn’t pay your debt for six months and it was written off as never being paid. This will harm your credit score substantially.
If they choose to report it as “account closed,” “paid as agreed,” or “current,” then you could escape with no negative impact on your credit score, which would be ideal.
Possible Tax Risks
You should also consider possible tax ramifications as well, because debt forgiveness in amounts over $600 may be considered “taxable income” by the IRS.
Debt Management vs. Debt Settlement
From the options listed here, going with a debt management non-profit will typically have the least effect on your credit score. It is possible that your enrollment in the plan itself may show up on your credit report. However, the actual payment arrangement should not have an adverse effect. This is much better than the effect caused by a debt settlement plan offered by for-profit companies, which will likely harm your credit score.
Conclusion, next steps, and other options:
After reading through all these options, it is possible you will decide that you would rather negotiate on your behalf. In that case, know your options, get all the facts, and call your credit card company. Expect that you may need to call several times to make any progress. Take detailed and diligent notes and get anything the credit card company agrees to in writing, so that you can hold them to it.
Regardless of which option you decide to go with, we wish you the very best of luck in your credit debt negotiation and repayment process! If you have any other tips or suggestions that could prove useful to others in similar situations, feel free to share them in the comments below.