Consumer finance expert Erica Sandberg, host of the weekly video podcast Making It in San Francisco that airs on KRON4, spoke with Investopedia recently to share her take on the topic of debt relief in a post-pandemic world.
Sandberg’s background as a budget and debt counselor at the Consumer Credit Counseling Service of San Francisco has prepared her for this wide-ranging discussion on debt, which includes tips and strategies for anyone who finds themselves in or near a debt trap. Our edited conversation follows.
Defining Debt Relief
Investopedia: What is debt relief, and when does debt relief become an option for someone with debt they can’t manage?
Sandberg: In general, debt relief refers to a reduction or cancellation of a consumer’s legitimate financial obligations. To be eligible, the accounts usually are delinquent and/or in collections.
Investopedia: What’s the difference between debt consolidation and debt relief?
Sandberg: Consolidation combines all your debt into one account with one payment. The payments are consolidated, but your debt isn’t reduced. There are several ways to consolidate debt. It could be through a nonprofit organization such as a consumer credit counseling service, where you close your accounts, then make a single payment to the agency, which distributes it to your creditors.
You could also consolidate your debt with a new loan or credit card. With a loan, you take out a fixed sum of money, which is enough to assume the outstanding debts. The advantage is that the interest rate is lower than what it was on the original debts, and the single account is easier to manage than multiple. You’re also converting revolving balances into an installment loan, which can help your credit report and credit scores.
Consolidating debt is also possible with a balance transfer credit card. As long as you qualify, you can shift balances from other credit cards onto a new card and in many cases receive a 0% APR (annual percentage rate) for a fixed number of months. In all these scenarios, you would pay the entire balance owed.
Debt relief or settlement, on the other hand, is a process where you would pay less than the amount owed, often in a lump sum.
About Debt Collectors
Investopedia: What’s the best way to handle debt collectors?
Sandberg: First, with legal knowledge. The Fair Debt Collection Practices Act is very specific about what a debt collector can and can’t do.
Second, with personal responsibility. When you take out financial products, you sign an agreement; the lender’s role is to lend, the borrower’s role is to repay. Do your best to meet your end of the contract. When you do communicate with collectors, stay calm. Be factual. This is business, not personal.
Impact of Debt Relief on Credit Scores
Investopedia: How does debt relief impact your credit score or general creditworthiness?
Sandberg: If you receive formal forgiveness, it usually shows up on your credit report as settled. It’s better than not paying at all but still an indication that you did not fulfill your contractual obligation. Delinquencies, charge-offs, and accounts that have been sent to collections show up on a credit report for seven years. These dings will not be purged when you settle the account.
Investopedia: Are there ways to minimize the negative impact of entering a debt relief program?
Sandberg: If you’re going to do it, do it quickly. The longer you delay, the longer you will have to wait before it is removed from your credit report.
Investopedia: How does debt relief compare to bankruptcy?
Sandberg: A Chapter 7 bankruptcy is a clear indication that you’ve wiped out your debts in court. It’s usually the worst thing that can happen to credit reports and the scores that are derived from the information on the reports. Evidence of a collection account that you settled while paying your other accounts on time and in full will have much less impact.
“Debt settlement and bankruptcy are not as bad as still having the debt unresolved, since both mean you can use your income for new buying.”—Erica Sandberg
Where to Seek Debt Relief
Investopedia: Where should people go to seek debt relief?
Sandberg: If you want to settle your debts, you can do it without a third-party company. You can negotiate a reduced sum on your own. But if you want to hire, look to debt settlement companies that have excellent reputations.
Don’t choose a debt settlement company that comes to you without you doing your research. Read other people’s experiences with the company. Some have thousands of positive reviews, while others are far less well known or have poor reviews.
Investopedia: What are typical fees charged by debt relief companies?
Sandberg: Most charge fees as a percentage—usually 15 to 20%—of the amount that was forgiven. If they eliminated $5,000 and charge 20%, your fee would be $1,000.
Investopedia: Who protects consumers from unscrupulous debt relief companies?
Sandberg: The Federal Trade Commission enforces federal consumer protection laws, including those that prevent fraud, deception, and unfair business practices.
Impact of COVID-19 on Debt Relief
Investopedia: How has the pandemic affected the need for debt relief in general?
Sandberg: A lot of people fell behind on their consumer debts during COVID because they couldn’t work as normal. The good news is that credit card companies stepped up to assist. Almost all provided hardship plans to people who were negatively impacted by COVID, so the accounts remained in good standing even though they were technically behind. This prevented accounts from being routed to collection agencies for nonpayment.
Investopedia: What types of COVID-related debt relief (both government and private) are still available?
Sandberg: On the government side, the CARES (Coronavirus Aid, Relief, and Economic Security) Act and the American Rescue Plan Act have helped with stimulus plans, rebates, unemployment boosts, and a softening of certain credit-reporting issues.
Privately, consumers are always free to work out a plan with their creditors independently but also to pursue private debt relief companies that help them with their debt concerns.
Investopedia: What do you see as the long-term impact of COVID-19 on debt and the need for debt relief?
Sandberg: COVID showed that credit card companies and other lenders can come together and help people in dire circumstances. Accounts don’t always have to go into collections. It would be great to see that flexibility continue.
Investopedia: Speaking of which, do you think this “goodwill” on the part of banks, credit card companies, and other lenders will continue past COVID-19?
Sandberg: It might. There has been a sense of “we’re in this together” during COVID that has created some loyalty to certain financial institutions, according to many credit cardholders I’ve spoken with.
Investopedia: What’s your message to people with overwhelming debt?
Sandberg: Remember that when you borrowed the money, you agreed to repay it as per the contract. A creditor is not required to give you a break, even if you have a great reason for needing it.
That said, all a creditor wants is to be repaid. When an account goes into collections, they lose money. Try to work with a creditor before the debt goes bad.
Keep in mind, this originated as an agreement between two parties: the lender and you. They upheld their end of the bargain. They loaned you the money. When you don’t uphold your end, you have failed to live up to the agreement you struck with the lender. Yes, things happen beyond your control that are not your fault. Nor are they the fault of the lender. Remember, you are not a victim, and the lender is not the enemy. Borrow with all this in mind, and bargain with all this in mind.
Investopedia: All that said, in your opinion, what’s not available in the area of debt relief that should be?
Sandberg: There should be more encouragement to help people be motivated to pay off their accounts. If they don’t get a positive credit-reporting boost, it eliminates much of the motivation.