When and How to Settle Credit Card Debt

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Very Upset Woman Holding Her Many Credit Cards.

Are you drowning in a sea of credit card debt, have collection agencies hounding you, and have no idea what to do because you can’t pay your balance?

There’s a light at the end of the tunnel you’re in, and it’s not declaring bankruptcy. You can settle your credit card debt for much less than what you owe, but it will involve some negotiating and standing your ground.

The advice contained here is for those with credit card debt that is already in collections. In this situation, you’re no longer dealing with your original creditor because they’ve sold your debt off to a collection agency.

This usually happens once you’re 150 days past due on a payment. At this point, you should have received a letter from the collection agency with the details of the debt it’s trying to collect on, or a phone call explaining the situation. If you haven’t received written notice, request it so you’re crystal clear on what the collection agency is asking you for.

Read on to find out how you can handle settling your credit card debt without having to pay more than you can afford.

Figuring Out How Much You Can Pay

You might not want to hear this, but collection agencies aren’t going to stop calling unless you pay something. It doesn’t have to be (and won’t be) for the full amount you owe, but considering the collection agency purchased your debt, it wants to make a profit.

The first step in creating a plan to settle credit card debt is to figure out how much you can afford to pay. If you can’t pay much, save what you can as every bit helps.

Set aside time to review your spending. If you already have a budget, look to see where you can cut expenses to put more money toward savings. Is it possible to earn extra money outside of your day job, or work overtime for the next few months?

Be realistic. If you can only save $150 per month right now, that’s all you can afford to save. You don’t want to make payment promises to a debt collector that you can’t keep. Save as much as you possibly can every month until you have enough to make an offer to the collection agency. We recommend having at least 20% of the balance you owe saved up before doing this. For example, if you owe $10,000, then save up $2,000.

You should also know that collection agencies can come after you if you don’t pay. If you earn a decent income or have significant savings, you’ll want to protect yourself. They can garnish your wages, seize your assets, and in some cases, can go after your retirement accounts. Nolo has more details here, but if your retirement plan is set up under the Employee Retirement Income Security Act (ERISA), then it should be safe.

Making the Offer to the Collection Agency

Here comes the hard part. If you’ve been on the phone with the collection agency previously, they probably told you that you had to pay the full amount of the balance you owe. It’s their job to scare you into thinking this is your only option.

If you haven’t made contact yet, be ready. The important thing is hold your ground. Say you can’t afford to pay the balance in full. The collector will likely come down, asking if you can pay around 80% of the balance you owe.

Your job is to hold steady until you can meet in the middle, at the amount you have saved up. If they ask you what you can pay, don’t name the actual amount you’ve determined you can pay. Go lower. Chances are you’ll have to negotiate up to that amount. You don’t want to settle on an agreement for more money than you have.

You’ll typically have an easier time negotiating if you can pay the balance all at once, but if you can only offer to make monthly payments right now, see if the collector will agree.

If they aren’t willing to accept what you have to offer the first time around, don’t get discouraged. Continue saving what you can, and when they call you back (or you call them), tell them how much more you can pay. Consider asking the person you’re dealing with how long they’ve had your account for – the closer the date, the more flexible they might be. They don’t want to lose your account if you’re willing to pay.

Additionally, don’t let them pressure you into making an upfront payment. It could lessen your negotiating power. You shouldn’t be giving the collection agency a cent until you settle on an agreement and get the agreement in writing.

Do you need help knowing how to word your response to debt collectors? If you think they’re in the wrong (and you don’t owe the debt), or if you want them to contact you in a certain way, the Consumer Finance Protection Bureau offers sample contact letters here.

Get the Offer in Writing

Hopefully you’re able to reach a settlement for the amount you have saved. Once you reach that settlement, you must get it in writing. A verbal agreement means nothing if the collector ever decides to sue you. You need proof, especially if it’s requested by the credit bureaus.

Any time you speak with a collector you should be keeping strict records of everything that was said. You want to be able to document all communication you had with them. It’s not their responsibility to do this. The only thing they care about is getting your money. If it’s legal to record phone calls in your state, you can do that, too.

Once you settle on an agreement, ask the collector if they can provide you with an agreement letter. If they aren’t willing to do that, you should draft your own. There are many helpful examples if you search for them, but this is a good template to follow. In general, you want to make sure the following details are contained in this letter:

  • The date the agreement is valid until (many offers expire after 30 days – you want to make sure you pay before then)
  • The amount you must pay
  • The correct agency name, especially if your debt has been sold multiple times
  • The exact debt(s) your money is going toward (be as specific as possible; include account numbers, dates, and name institutions)
  • Instructions for the agency – if it accepts the payment, that means the balance is paid in full and it can’t contact you about it again or place it on your credit report again
  • Credit history reporting – depending on what the collector agreed upon, this could be deletion of the mark from your credit history (pay for delete) or “paid in full” status

How to Pay

You might think the best way to pay is to fork over the cash, or write a personal check. We wouldn’t recommend either of those options. Cash isn’t traceable, and personal checks give the collection agency your bank and routing number.

Instead, pay by cashier’s check or money order. Keep in mind paying with a money order may make it difficult to prove that you paid.

If it’s not too much of a hassle (and you don’t trust the collection agency), you can open a “throw-away” account that won’t charge overdraft fees like Bluebird and use a check from that account. Close it once the payment goes through. This gives you peace of mind knowing your regular accounts are safe.

When sending the payment, send it via certified mail return receipt requested.

Is Your Debt Expired?

Before you even contact the collection agency, you’ll want to check if your credit card debt is within the statute of limitations for your state. If you make any sort of payment toward an old debt, or acknowledge that you owe it, then that debt becomes active again and you open yourself up to the possibility of a lawsuit.

The statute of limitations on consumer debt varies from state to state and it may be a good idea to speak with an attorney if you can afford to.

Beware of Possible Tax and Credit Implications

When you settle credit card debt for an amount less than what was originally owed, you may have to pay income tax on the difference. This is because the IRS treats the amount that was forgiven as gained income.

It’s best to consult a tax professional and let them know about your situation. According to Nolo, if the amount forgiven was over $600, the debt collector is required to report it to the IRS and send you Form 1099-C so you can report the income. If you don’t receive this form from the collector, that doesn’t excuse you from reporting it. However, there are exceptions, which is why you should let a tax professional help you figure out if you need to take action.

Another factor to consider in the aftermath of your credit card debt being settled is your credit score and history. How will they be affected? Paying a portion back is better than ignoring your debts, but your credit score may still suffer. As we mentioned, you should include specific instructions for your debt collector to list the debt as “paid in full” on your credit report – you don’t want it to say “settled” as that looks worse.

In some cases, the debt collector may not have the authority to make changes to your credit report, especially if you want the account deleted. You may have to contact the original creditor. You can ask the debt collector for that information, and then ask the original creditor if they’ll consider deleting the account from your report. Make sure you have a good explanation – tell them you’re trying to get your finances in order by repaying old debt, and want to start fresh.

Getting Help With Your Debt

Be very wary of accepting help from a debt settlement company. Many are for-profit and unethical, taking fees out of your payments and negotiating with collectors when you can do the same for free. It will likely end up costing you more money to have their assistance.

If you’re having trouble managing any other debt you have, a consumer credit counseling company could be the right move for you. We have a list of the best we recommend that won’t charge you an arm and a leg for their services. They can help you create a budget and a debt repayment plan, as well as advise you on how to improve your credit score.

Alternatively, you can check out our free guide to getting out of debt. We know dealing with collection agencies and old debt isn’t fun, but you’ll feel relieved once this process is over with. The worst thing you can do is completely ignore your debts as the bad marks on your credit won’t fall off your history for another seven years. Most people can’t wait that time out. Good credit is valuable to have, and there’s no better time to start working toward it than right now.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Erin Millard
Erin Millard |

Erin Millard is a writer at MagnifyMoney. You can email Erin at [email protected]

Do you have a question?