Business Debt Settlement vs Debt Consolidation: Key Differences
If you run a small business, chances are you’ve heard about options to help with debt like debt settlement or debt consolidation. But what exactly do those terms mean and how are they different? Here we break down the key differences between these two common debt relief strategies.
What is Business Debt Settlement?
Business debt settlement involves negotiating directly with creditors or collection agencies to settle your outstanding business debts for less than the full amount owed.The goal is to come to an agreement where the creditor accepts a lump sum payment that is smaller than what you owe in exchange for considering the debt settled. Debt settlement companies may get involved to negotiate settlements on your behalf.
- With business debt settlement you are not required to pay off the full amount owed on debts – the focus is reducing balances through negotiated settlements
- There is no guarantee creditors will accept settlement offers – they may continue collection efforts including lawsuits
- Settling debts typically has a major negative impact on business credit scores
What is Business Debt Consolidation?
Business debt consolidation combines multiple debts into one new loan with the goal of securing a lower monthly payment.Consolidation can make repayment easier to manage by streamlining varied due dates, interest rates, and terms into a single loan. The overall debt amount itself is not reduced through consolidation alone.
- Consolidation loans allow businesses to combine multiple debts into one monthly payment
- Interest rates may be lowered with consolidation, reducing total interest paid over time
- Business credit scores are impacted less severely than with debt settlement
Key Difference 1: Debt Reduction vs. Debt Restructuring
The core difference between debt settlement and consolidation lies in the approaches towards managing debt. Settlement focuses on debt reduction – getting creditors to agree to take less without fully paying balances off. Consolidation leads more towards debt restructuring – taking out new financing to repay debts in full at potentially better rates.
- With settlement, debt loads are lessened through negotiated discounts on what is owed. The goal is paying less than 100% of balances.
- Consolidation restructures debt by taking out a new loan to pay off old ones in full. Less focus on reducing amounts owed overall.
So in simple terms – debt settlement directly lowers debt balances due while consolidation repackages the debt to make repayment easier.
Key Difference 2: Impact on Business Credit Scores
Another major point of difference is the respective impact of debt settlement and consolidation on a business’ credit rating. Settling accounts for less than owed will cause much more significant damage to credit scores than consolidation generally does.
- Creditors report settled accounts and negotiated discounts as major derogatory marks on business credit reports. This causes substantial score drops.
- A new consolidation loan represents restructured debt still being fully repaid. There is a less dramatic credit score impact in most cases.
For businesses concerned about protecting their credit rating as much as possible, consolidation would likely be the safer route over attempting settlements through debt relief companies. Those focused first on lowering debt loads may decide the credit score hit is worthwhile.
Key Difference 3: Dealing with Creditors & Collectors
The process of interacting with creditors varies greatly between debt settlement and consolidation as well. Settlement puts businesses in the position of making potentially uncomfortable offers to creditors to try to negotiate discounts. Consolidation simply pays off those creditors in full through new financing.
- Debt settlement means proposing lower payoffs to creditors and trying to get them to agree. This may involve legal action if negotiations fail.
- Debt consolidation allows avoiding direct creditor interaction by taking out a new loan to pay off what is owed.
Essentially debt settlement guarantees some level of ongoing dealings with creditors and collection agents – consolidation does not. There is more involvement negotiating settlements compared to arranging new financing that repays old debts.
Key Difference 4: Tax & Legal Implications
Another consideration is the differing tax and legal consequences between debt relief options. Any savings achieved through settlement may be considered taxable income. And creditors may initiate lawsuits if settlement talks fail.
- Debt settlement savings can be considered taxable income in some cases – adding further costs
- Creditors may sue if unsatisfied with settlement proposals – raising legal fees
- Debt consolidation does not trigger potential tax bills or increased legal action
Make sure to consult qualified tax and legal advisors to fully understand possible financial and legal outcomes before pursuing either debt management method.
Key Difference 5: Fees & Costs
There is also a significant difference in the fees and costs associated with debt settlement versus consolidation. Settlement companies often charge very high fees equaling as much as 25% of enrolled debt. Loans for consolidation may have lower origination fees around 5% of the amount borrowed.
- Debt settlement fees can equal 25%+ of debt enrolled in a program
- Debt consolidation origination fees are generally around 3-5% of loan principal
Run the numbers to see settlement fees tally up much more rapidly. At the same time, reduced interest rates achieved through consolidation loans can lead to long term savings. Crunch the totals carefully taking all costs into account.
Key Factors Impacting Choice Between Settlement & Consolidation
When deciding if business debt settlement or consolidation is the better option, it helps evaluating a few key factors:Current Credit Rating – Businesses with higher credit scores may benefit more from consolidation loans at better rates. Those with already poor ratings may settle debt to avoid further score drops.Ability to Repay – If unable to realistically repay debts in full, settlement may be the only path to resolve balances. If repayment ability exists, consolidation loans can aid through better terms.Interest Rates – If current debts already have high interest rates, consolidation into a lower rate loan can substantially reduce total interest paid over time.Fees & Costs – Crunch the numbers between settlement fees and loan origination fees. Consolidation loans often cost less upfront.Tax Implications – Be aware of potential tax bills on settled debt. No such consequences exist when debts are consolidated then fully repaid.
Pros & Cons of Business Debt Settlement
| Pros | Cons |
|---|---|
| Directly reduces debt loads | Severely damages credit rating |
| Only option if unable to repay full balances | No guarantee creditors accept settlement offers |
| Stops collection calls from creditors | Potential tax implications for settled savings |
| Avoids need to take on additional financing | Legal action still possible from unsatisfied creditors |
| Fees may still amount to less than total interest savings | High fees to enrollment companies averaging 25%+ of debt |
Pros & Cons of Business Debt Consolidation
| Pros | Cons |
|---|---|
| Saves money through lower interest rates | Does not reduce total debts owed |
| Mix of debts consolidated into one payment | Credit score impact from new inquiry & account |
| Pay off debts in full without settlements | Loan denial if unqualified due to poor credit |
| Creditors paid in full – no legal action | Temptation to rack up new debt after consolidating |
| No tax bills on repaid debt | Potentially extended repayment term |
| Lower upfront fees around 3-5% of amount borrowed | Closing open revolving accounts lowers total available credit |
Expert Tips for Deciding Between Settlement & Consolidation
When evaluating debt relief options, keep these tips from financial experts in mind:
- Thoroughly analyze your specific situation – there is no one size fits all solution
- Understand consolidation restructures debt while settlement reduces it
- Make sure to account for all fees, costs, and potential tax bills
- Avoid any company asking for upfront fees before settling accounts
- Don’t rule out discussing hardship options directly with creditors
- Consider consulting a nonprofit credit counseling agency for guidance
- Address root causes of rising business debt levels or the problem will persist
Seeking the Best Business Debt Solution
As a small business owner, dealing with overwhelming debt is challenging enough without navigating confusion over the different relief methods available. Now that you understand the key differences between the two most common approaches – debt settlement and debt consolidation – you can make an informed decision on the best path forward.Reaching out for help from experienced professionals can simplify the process of evaluating all your options, calculating the costs, and even negotiating with stubborn creditors for you.At Delancey Street, our financial experts have assisted countless business owners in assessing their situation to find the optimal debt relief solution. With a simple application and no obligation consultation, we can provide the right guidance and custom action plan to fit your needs.Learn more about our business debt relief services or call 212-210-1851 to speak with an advisor today. With the right help, you can resolve debt, improve cash flow, and get your business back on track for success.
