Here's Exactly What Happens When You Work With a Debt Relief Company

Figuring out how to pay off credit card debt isn’t a new problem, but one option for help is becoming increasingly popular: hiring a debt relief company. These companies — also known as debt settlement companies — grew their business by nearly 40% between 2018 and 2022, according to industry data.

Debt relief companies negotiate on your behalf to try to get your creditors to settle for less than you owe. Industry statistics show that about three-quarters of debt relief customers are able to settle at least one account. Still, the debt settlement process isn’t without risks, and you need to consider alternatives, including credit counseling, debt consolidation loans and even do-it-yourself debt negotiations, before deciding which strategy is right for you.

Assuming you’ve already done that, it’s also important to know how debt relief programs work before you dive in. Here’s a step-by-step look at what to expect when you sign up with one of these companies.

1. Talk with a debt relief program expert

The first step is setting up a phone call with a company representative for a free consultation. Their job is to check that you’re eligible for their debt relief program and that it is a good fit for your situation, and if not, to guide you to other options.

Each company differs, but you’ll generally need a steady income and at least $7,500 in unsecured debt to qualify. (Unsecured debt comes from things like personal loans and credit cards — debts that aren’t attached to things like your home or your car.)

The representative should also take the time to fully explain how the debt relief program works and answer any questions you may have. That’s especially important, according to Denise Dunckel Morse, the CEO of the American Association for Debt Resolution.

“Consumers who turn to debt resolution have often faced a variety of hardships, including medical, divorce or a death in the family,” she said in an email. It can be hard to make big decisions when you're stressed out, so you want to work with a company that will take the time to walk you through everything.

2. Set up your program savings account

Debt relief companies work by helping you save up money that they’ll use as a bargaining chip to settle your debt. Thus, if you’re eligible for a debt relief program, you’ll be prompted to sign a contract listing out each individual debt that you’d like to enroll in the program. Once you sign the contract and officially enroll, you’ll work with an onboarding team that handles the account setup process.

This team will help you open a savings account at a partner bank. They’ll recommend a biweekly or monthly deposit amount for you to make after a review of your finances and help you set it up on autopay. You're in control of this savings account and all the money within it, but it typically comes at a cost of $5 to $10 per month.

3. Build up funds for settlements and stop paying your creditors directly

While you work on building up money in your dedicated savings account, the debt settlement company may suggest that you stop paying your bills for the debts you’ve enrolled in the program. This is not required, but it helps you build leverage for the debt relief company to negotiate with creditors. However, missed payments will be reported as delinquent on your credit report.

Keep in mind the effect of missed payments is one of the biggest drawbacks of pursuing debt settlement. Creditors can respond by adding extra penalties and interest to your account and — in some cases — filing a lawsuit against you. Missed payments can also cause your credit score to drop. Depending on your credit score, you could see a drop between 100 and 200 points, according to Debt. org.

When you're shopping around for the best debt relief companies, try looking for ones that either offer legal services as part of their program or, at a bare minimum, offer referrals for legal services so you’ll have some protection if you are sued by your creditors.

Finally, in the past, many companies had a practice of recommending that you change your contact information to point creditors toward the company you’re working with, effectively cutting off your communication with creditors. This is less common today, but it’s still important that you know: If a company suggests this, know that it’s optional.

4. Approve any settlement offers

You’ll keep making your regular program deposits each month while the debt relief company works on a negotiation strategy for your debts. Each debt will be negotiated separately, with a separate settlement offer for each specific debt account you enrolled in the program.

Generally, when you’ve saved up about 20% of the balance for your first debt, the company will reach out to negotiate a settlement offer with that specific lender. If your creditor approves, the debt relief company will swing back around to you with a proposal outlining the settlement amount and their fee for services. Most debt relief companies charge between 15% and 25% of the amount of debt you enroll. In other words, for every $1,000 you owe, you can expect to pay $150 to $250 to the debt relief company.

If you give your approval to proceed, the debt relief company will withdraw the settlement amount from your program account along with their own fee. (Note that it’s illegal for companies to charge their fees before this point.) Many settlements take the form of a single lump-sum payment, although the debt settlement company may also negotiate a term payment plan with the creditor instead. You may also be offered a loan to cover the settlement amount, which you should evaluate carefully. Once the creditor has been paid, that debt is settled.

5. Rinse and repeat until all of your debts are settled

It takes four to five months, on average, before people get their first settlement offer (although some companies are able to do this even faster). After each settlement, you’ll need to let your savings account balance build back up again to help the debt relief company negotiate your settlements more successfully.

You can expect it to take about four years to tackle all of the debts you’ve enrolled in the program, according to industry representatives. But sticking with the program for even three years can yield big benefits. According to a study commissioned by the American Association for Debt Resolution (AADR), most people are able to settle three to four accounts during this time period for an average of 55% less than they owed.

Generally speaking, the debt relief process will continue with each of your debts, one at a time, until you’ve settled all of your debts that your creditors are willing to negotiate. An important thing to keep in mind is that not all creditors are willing to play ball; in fact, one in four customers aren’t able to successfully settle any debts through their debt relief programs, one report on the industry found. (Though the study doesn’t dive into the reason why; it could be because creditors refused to negotiate or it could be because the clients couldn’t build up enough money to start negotiations.) You’ll still face fees and interest charges as well as a delinquent notation on your credit report for any debts that you aren’t able to settle, though.

How to get the most from debt relief programs

The average customer saves $5,400, or 32% off their debt, after taking the debt settlement company’s fees into account, according to the AADR study. That alone would be a huge help to many Americans struggling with overwhelming credit card debt. But there are other steps you can take to improve the payoff. Experts often recommend specific strategies to ensure you’re able to get the most benefit from these debt relief programs:

• Commit to saving for settlements: The faster you’re able to build up money for negotiations, the faster the debt relief company can reach out to work with your creditors. If you miss deposits to your savings account, it will slow down the entire process and could result in more late fees added to your accounts.
• Save for the tax bill: You may owe income taxes on any amount of debt that’s successfully settled. How much you owe will depend on your total income and tax bracket for the year the debt is settled.
• Avoid taking on new debt: It’s easier to pay off your old debt if you avoid adding new debt into the mix. It’s good to brush up on your budgeting skills while looking for ways to grow your income instead if you can.
• Be prepared with a Plan B: Have a backup plan in place. Many people aren’t able to settle all their debts, or they may face lawsuits or other problems that cause them to drop out of the program.
• Save up an emergency fund: Saving for emergencies not only helps you pay some of the extra costs of the debt settlement process, like taxes or legal fees, but it also helps you stay out of debt long-term because you can weather financial challenges more easily.

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