The Difference Between Debt Consolidation and Debt Settlement


There are a lot of people struggling with debt. If you are one of them, then you might feel stressed out and the last thing you want to do is hide in a cave and never come out.  Luckily, there are ways you can obtain debt relief. Two of the most popular strategies are debt settlement and debt consolidation. Debt settlement and debt consolidation are two forms of financial strategies for people struggling with more debt than they can repay. The two terms are often used interchangeably, which leads to confusion on the part of clients, who may not realize that they function quite differently and are used to resolve different issues.

Debt Consolidation

Debt consolidation is the process of combining one or more debt accounts into one (most beneficial if done at a lower interest rate). In other words, debt consolidation is taking out a new loan to pay off the loans you already have into one monthly payment with one interest rate. Consolidation helps to simplify the repayment process and typically results in a lower interest rate. Debt consolidation loans are facilitated through a variety of financial institutions, such as banks and credit unions, and a number of private companies as well.

Debt Settlement

Debt settlement is the act of you and your lender agreeing to settle a debt for lower than the amount currently due. Debt settlement is the process of paying off debt to a creditor after mutually agreeing to a sum less than what is owed. Usually, only unsecured debt, such as credit cards and medical bills, is eligible for settlement. This can be done with the assistance of a debt settlement company or, in some cases; an individual may choose to do this on her/his own.


Debt Consolidation and Debt Settlement: Deciding What’s Right For You

Understanding the difference of debt consolidation and debt settlement will help you decide what is appropriate for your debt situation. Determining which debt relief program you should pursue will depend largely on the current state of your finances.

Is Debt Consolidation Right For Me?

When you choose debt consolidation, the amount you owe will stay the same; however, you choose to have multiple debts merged together into one debt consolidation loan. Debt consolidation is right for you if you’re paying on one or more debt accounts that have very high interest rates (such as most credit cards) or you’re paying on multiple debt accounts and you’re struggling to keep track of them all.

The advantages of debt consolidation include:

Simplified Payments. The most beneficial side to having consolidated loan is the convenience and affordability of handling one repayment plan rather than multiple bills. You now don’t need to remember the multiple payments due date! You are now dealing with just one loan and one monthly (or biweekly) payment.

Low Interest Rates. When you have many debts, you’ll end up having higher interest that will cost you a lot! Consolidating them into a lower-rate debt consolidation loan can save you thousands in interest over the term of your loan. However, what most companies will not tell you is that you will end up paying more in the long run under the consolidated plan than that of the original account.

The disadvantages of debt consolidation are:

Extended loan term. The debt is not forgiven or even reduced. You still owe the same amount of money and if you don’t increase your payments and decrease your spending, the problem will never go away. You should be ready to spend anywhere from 2–5 years in a debt consolidation program before eliminating the debt.

Using your Home as Collateral. Some lenders require you collateral for your loans to be secured. A secured loan certainly isn’t a bad thing; however, missing payments on a secured loan is. If you default on a secured loan, you could lose your collateral. With so many people upside down on their mortgages these days, using your home may not be acceptable security.

Is Debt Settlement Right For Me?

The goal of debt settlement is to reduce the total amount of money that you owe your creditors. Debt Settlement is often  viewed as an alternative to bankruptcy, it can either be negotiated one-on-one between you and your creditor, or with the assistance of a debt settlement attorney or company. The advantages of debt settlement include:

Reduces your debt. The major benefit to debt settlement is that it reduces the amount of debt you owe. By negotiating a lower amount, you can pay off your debt faster and reallocate your money to pay off other debts or build savings.

Cheaper. It can be a cost-effective method of resolving debt, since you are not obliged to pay the total principle amount of your debt.

  • The disadvantages of debt settlement are.

Effect on your credit score. Debt settlement will have a negative impact on your credit score, but the impact may not be as great as if you filed for bankruptcy.

Effect on your credit report. The fact that you settled your debt — that is, didn’t pay the full amount — remains on your credit report history for seven years, making it more difficult for you to get credit from any lenders.

Tax Consequences. Once a settlement has been negotiated, the difference between what you originally owed and your settlement amount is considered taxable income.

Additional Fees. Debt settlement companies can have many fees which can make a deal unattractive for both the borrower and the applicants. When you settled your debt, you will likely pay them fees equalling 14-18% of the debt that you want settled.


Now that you know the advantages and disadvantages of both financial strategies, you can now decide which of these you methods are right for you. Debt consolidation can be a good first step, while debt settlement is best used as a last resort.  Debt consolidation is a great tool to lower your interest rate and use that as a way to decrease your repayment time, while debt settlement is paying less than you owe. I honestly believe that paying off your debt can be done without using either of these programs if you have the right game plan. Once you commit to changing your financial habits and employing a debt payoff strategy you will be able to conquer your debt successfully.  If you do intend to use on of these programs, seek out professional debt consolidation agencies or debt settlement firms for advice.