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Debt Consolidation Services: Advantages and Pitfalls

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Even the most successful small business can fall upon hard times. When bills start piling up and your cash flow isn’t what you expected, it might be time to consider turning to a credit counseling service, debt settlement service or debt resolution firm.

These companies and organizations — collectively referred to as debt consolidation services or debt service companies —can operate as for-profit or nonprofit entities. They work on their clients’ behalf to negotiate lower rates and better payment terms with creditors. Most offer a variety of services including credit counseling, debt settlement or resolution, and, when absolutely necessary, bankruptcy.

But there are often unspoken pitfalls to watch for.

Credit Counseling

Many credit counseling companies are not for profit. Some are for profit. These companies have pre-existing agreements with credit card companies for lower interest rates than you are probably paying.

They get a fee paid to them by the credit card companies for bringing your business to them. You also pay a monthly fee of roughly $50 a month. While your monthly payment will remain the same as it is now, you will save money over the long term because your interest rates will be lower and you debt will be paid of sooner.

However, you have to trust that these companies are doing what they are supposed to be doing with your money.

“I would make sure that if you are giving someone money to settle your debt that they are actually using that money to do so, rather than keeping it for themselves,” advises Nancy B. Rapoport, Gordon Silver Professor of Law at the William S. Boyd School of Law at the University of Las Vegas.

“There is nothing wrong with doing whatever you can do legally to reduce your debt,” Rapoport told BusinessNewsDaily. “Just make sure that you choose a very trustworthy company.”

Debt settlement companies

For an upfront fee of approximately 15 percent of your total debt, debt settlement companies will advise you to stop paying your monthly bills and, instead, put the money into a bank account.

Once you’ve accumulated a specified sum, they will contact your creditors on your behalf and attempt to negotiate a one-time settlement of a one time payment of less than you actually owe. So, if you’ve saved $500, they will contact your creditor and try to get the creditor to settle your $1,000 debt for a one time lump payment of $500.

These methods, however, are not without consequences.

“It is important to remember that both of these methods will affect your credit,” explained Aaron Englert, owner of a web site called Debt Professor, which helps people sort through all of the debt service options and determine which is best for them. Englert's service is free of charge.

“In order for a credit card company to be willing to work with you, you have to be behind in your payments and that will affect your credit,” said Englert, who has worked as a debt counselor and currently work for a debt resolution company.

Debt resolution companies

Debt resolution companies offer a similar service to debt consolidation, except that the work is done by attorneys. You will likely have to pay an attorney retainer fee of a few hundred dollars, but you can expect that your attorney will be acting in your best interest.

While attorneys are held accountable by their state Bar Association, debt settlement companies do not have the same kind of regulation. Debt resolution companies are also more likely to have you accumulate savings in your own account rather than a trust account that you do not have control over.

“You should always make sure you are in control of your money,” Englert said. “Most people don’t learn the difference between these kinds of services until it’s too late.”

Using a debt consolidation service is not without its drawbacks or risks. In order for a company to work with you, they will advise you to stop paying your bills during negotiations, which can be a risky proposition. Not paying can affect your credit and that isn’t something these debt settlement firms can help you with.

It is also important to determine that the company you are using has an excellent reputation for being thorough, honest and trustworthy.

A review of the best for-profit debt settlement companies can be found at our sister site, TopTenREVIEWS.