Debt Settlement vs. Debt Management: 5 Differences for Business Owners

If you are trying to pick between debt management and debt settlement, that may indicate your business is struggling to keep up with its bills. Debt settlement means having a company negotiate a lower payoff than what you owe, for a fee, with each creditor. Not all lenders agree to this arrangement. Debt management by contrast means one payment plan. You pay down all of the money owed.

First, with a debt management plan you will pay all of your accounts down fully, while for debt settlement you only pay off a part of your balance. If a creditor doesn’t agree, there may be no savings. The credit counseling agency cannot make any of your bills just disappear. But the counselors may get creditors to lower interest rates or waive some fees. Always check with each creditor to confirm what was agreed.

Second, with debt management you keep paying off debt, but with settlement you are often told to stop paying. If you stop paying, fees and interest keep piling up. Then you may get calls from collections or even be sued, plus there can be more damage to your credit. In some cases a lender may insist on the whole balance all at once. With a debt management plan, you keep making a payment that covers all of the debts together. Is missing payments even worth the risk?

And with a merchant cash advance an unpaid debit may just be the beginning. The funder may accelerate repayment and the full balance may come due. The funder may enforce its UCC-1 lien, while sending your customers notices about redirecting payments. They may even try to freeze your bank accounts.

Third, there are rules for what kind of debt you can put into the program. Debt management plans are for unsecured debt, not secured debt like car or home loans. For you to qualify, the rules may say to include most or even all of your unsecured accounts. If your business shuts down, a nonprofit credit counselor says you may want to include any business credit cards and any business lines of credit for which you signed personally when deciding whether a plan could help.

A fourth difference, when it comes to timing and new credit: the FTC says debt management plans can take 48 months or more. You may have to agree not to apply for or use any new credit until the plan is done. With debt settlement, usually there will be a record the debt was “settled”, for future lenders to notice. If you plan to keep operating and borrowing money, that record matters. Credit accounts paid down in full protect your relationships and your ability to get financing in the future. Credit reports generally can’t show collection or charged-off accounts more than 7 years old, counted from 180 days after the delinquency began. That limit doesn’t apply to reports for large credit deals.

Fifth difference: money. A federal rule says a debt settlement company cannot take a fee until at least one debt is settled under a signed agreement and you have made at least one payment on it. Any money you set aside toward settlements must be held at an insured bank. Except for fees already earned, if you quit, you are due back the whole deposit minus fees within seven business days. But most business-to-business sales calls are exempt from this rule. So, as a business, those fee protections may not apply to the sales call that got you to join. But some general rules against deception still apply. And you should always read the agreement before you sign.

Tax Consequences

Keep in mind there could be tax consequences. A debt management plan usually has no effect on taxes, but debt that is forgiven in a settlement could be counted as taxable income. IRS Publication 4681 says cancellation of debt for a nonfarm sole proprietor should be reported on Schedule C, line 6. Check with a professional.

Which Set of Trade-offs Is Best for Your Business

So which might fit? Only you can decide which set of trade-offs is best for your business.

Some companies offering loan or debt relief are really just signing you up for new, larger loans to pay off old ones, which would add debt to service debt. Also, be wary of any firm telling you to stop making payments and save up money for a debt settlement.

Don’t wait too long. Each time you miss a bill, it narrows your choices and raises the cost of any plan you pick. Time is your biggest advantage.