Debt Relief Drawbacks

When debtors use a plan or service to make the burden of debt easier to deal with, this is known as debt relief. Debt relief is a general term that can encompass a number of different strategies, including restructuring, consolidation and settlement. Restructuring is the act of changing the terms of the loan. Consolidation uses a new debt to repay an old, possibly late debt. And settlement offers a large debt payment in exchange for some measure of debt forgiveness. These options may help borrowers, but they also have drawbacks debtors should fully understand.

Credit Problems

A key factor in dealing with debt is credit. Late payments and defaulted accounts are very damaging to credit and debtors should always try to avoid them, even if they are struggling to fulfill their current debt obligations. Unfortunately, many relief options are only available once damage is already done to credit. Lenders are often willing to consider restructuring or settlements once the account has been defaulted and damage already done. This can make it a challenge to fully recover from debt problems.

Debt Consolidation Issues

Debt consolidation uses a new loan to replace older debts that are difficult to pay off. But the new loan may bring troubles of its own. If the new loan has a higher interest rate than the old debts collectively did, it can become even more difficult to pay off. Some organizations offer specific debt consolidation loans or refinances, but these start debt over, creating new periods that will extend debt pay-off farther into the future, creating more interest charges overall.

Tax Issues

Debt settlement is a popular option for older debts that are late and probably will not be paid back. In this case, the lender may agree to accept a quarter or a third of the debt in payment and cancel the rest. This may sound like a good deal, but debtors should keep in mind that the Internal Revenue Service will realize that a debt obligation has been removed. All debt forgiven will count as income for the debtor and create a tax burden that must usually be paid off in the coming tax year.

Lifestyle Issues

Debt relief strategies help fix debt problems. But they rarely help fix debt practices. Unless the debt relief strategy involves some type of counseling, many debtors will continue in the same bad habits that created their debt problems. This perpetuates debt issues long after the payment problems have been taken care of. In this case, debt relief is a Band-Aid that does not solve the budgeting and spending problems that are the root of the issue.