What is the difference between debt consolidation and debt settlement?



Debt consolidation and debt settlement are both financial strategies for improving personal debt, but they work quite differently and are used to solve different problems. At a very basic level, debt settlement is helpful in reducing the total amount of debt owed, while debt consolidation is helpful in reducing the total number of creditors you owe. It is possible to receive secondary benefits from either of these strategies, especially debt consolidation.

Key points to remember

  • Debt consolidation and debt settlement help you reduce your debt, but they do it in different ways and using different strategies.
  • Debt settlement is helpful in reducing your total debts, while debt consolidation is helpful in reducing the total number of creditors you owe.
  • With debt consolidation, multiple loans all come together into one new consolidation loan with a monthly interest rate.
  • With debt settlement, you or a credit counselor negotiate with your creditors so that you can pay less than you owe, often in the form of a lump sum settlement.

What is debt consolidation?

Debt consolidation is a process in which you combine multiple debts into one consolidation loan. It is a single loan that consolidates all your previous debts into a single monthly payment at a single interest rate. Consolidation loans are offered through financial institutions, including banks, credit unions, and online lenders, and all of your debt payments go to the new lender in the future.

Consolidating debt in this way can have psychological benefits, as it relieves the stress of having to juggle multiple debt repayments each month. It is also possible that a consolidation loan results in a lower total monthly payment or a lower average interest rate on your debt. Whether you can save money on interest over time may depend on the length of the loan repayment term and / or whether you are paying a fee for the loan, such as an application or origination fee.

A debt consolidation loan may or may not be secured. Secured debt consolidation loans require you to use one or more assets as collateral, such as your home, car, retirement account, or insurance policy. For example, if you take out a home equity loan to consolidate your debt, your home will secure the loan.

To note

Debt consolidation could help improve your credit rating if you are able to lower your credit utilization rate, but it’s important to monitor your credit reports and credit scores for any potentially negative impacts.

What Is Debt Settlement?

While debt consolidation allows you to combine multiple debts into one loan, debt settlement uses a very different strategy. When you pay off debt, you are actually asking one or more of your creditors to accept less than what is owed on your account. If you and your creditors come to an agreement, then you will have to pay the settlement amount in a lump sum or in a series of installments.

The advantage of debt settlement is that you can eliminate debt without having to pay off the balance in full. This can be a great alternative to bankruptcy if you are considering a Chapter 7 filing as a last resort when you are in dire financial straits.

It’s important to remember, however, that creditors are not required to enter into negotiations or accept your offer. Additionally, you will need to keep in mind that in order to come up with a settlement you need to have cash on hand to pay the agreed amounts. If you don’t have the money to negotiate, then applying for a debt consolidation loan may be the best option.


Typically, creditors will only consider debt settlement for overdue accounts. Therefore, if you are always up to date on your balances, this may not be an option.

Debt Consolidation vs. Debt Settlement: Main Differences
Debt consolidation Debt settlement
How it works The debts are consolidated into a single loan with a single interest rate. Debt balances are negotiated to pay less than what is owed.
Impact on credit rating Can help improve credit scores if it lowers your credit utilization rate. Past and overdue payment history for a settled account could adversely affect your credit score.
Cost The interest rates for debt consolidation loans vary; some lenders may also charge a fee. Debt settlement may not cost anything if you do it yourself, but debt settlement companies may charge fees for their services.
Advantages Combining debt into one payment could make repayment easier and you could save money on interest. You can eliminate debts for less than what is owed and avoid collection actions, including lawsuits against creditors.
The inconvenients Depending on the length of the loan, you might pay more total interest over time. Not all creditors can agree to a debt settlement, and late payments can hurt your credit rating.
Debt consolidation and debt settlement offer two different approaches to debt management.

How to negotiate a debt settlement

Debt settlement requires you to have negotiation skills, but the process itself is not that complicated. If you’re behind on one or more debts, you’ll start by contacting your creditor to ask if they’re ready to negotiate a settlement. You can do this over the phone, but if you prefer to have a paper trail, you can send a written request.

At this point, the creditor can do one of three things: accept your offer to settle, reject it, or make a counteroffer. If your creditor chooses to make a counteroffer, you can assess whether the amount they are asking for is realistic for your budget.

Once you and a creditor agree on a settlement amount, you can arrange to make the payment. Again, you may be required to make a single lump sum payment or multiple installment payments, depending on the creditor. Your payment method may vary and includes sending an electronic payment from your bank account, wire transfer, or paper check.

Once a debt is settled, it is gone — the remaining balance is erased. However, with unsecured debt such as credit cards, you run the risk of having your account completely closed after settlement is complete because the lender will not want to continue giving you credit. This, as well as any past due payment history associated with the account, could cost you credit points.

If you are not comfortable negotiating a debt settlement on your own, you can hire a debt settlement company to do it on your behalf. Be aware that this will likely involve paying a fee. You can contact the Federal Trade Commission or the National Consumer Law Center for free information on debt negotiation and debt negotiators.


Be sure to keep a written record of all communications and payments regarding debt settlement, in case a creditor tries to come back later and claim payment of any canceled balance.

Debt Consolidation Vs Debt Settlement: Which Is Better?

If you are considering the best way to manage your debt, you may be weighing debt consolidation over debt settlement. But one may be a better choice than the other, depending on the specifics of your financial situation.

For example, if you just need a way to make your monthly payments more manageable for your budget, it might be a good idea to consolidate debt into one loan. Keep in mind that you will need good credit to qualify for the lowest rates on personal loans for debt consolidation.

If you are already behind on one or more debts and your creditors are threatening to sue, you may want to consider settling your debts instead. Assuming you have the cash available to make settlement payments, this could be less financially damaging than filing for bankruptcy.


If you are looking for debt consolidation loans, take the time to compare the annual percentage rate (APR), fees, loan repayment terms, and minimum credit score requirements to find the best loan options. .



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