Your final step is setting up a budget for yourself and your family.  As we already discussed, you should keep making the monthly payments you had been putting into your settlement account but now make them into an investment fund.  We recommend choosing mutual funds with low fees (Vanguard is a company we recommend).  You can scale back the payments a bit if needed but they should be at least 10% of your gross monthly income.  This is the most important part of the budgeting process and as long as you stick to this, you should be able to build up a nice retirement account.

The second thing you will need to do is make sure all your installment payments, which include things like car payments, student loans and credit card bills, are less than 20% of your gross monthly income.  This will keep you on track in terms of debt amount so you don’t get overwhelmed.  You will use the remaining amount of your paycheck for living expenses and paying taxes.

Another good tip is to set up an emergency fund.  The amount of money you keep in here varies from person to person but 5-10k is usually a good range.  This fund will cover unexpected expenses like major car repairs or hospital stays that aren’t covered by insurance.

The last budget tip is to keep a spending journal for the first 60-90 days after you become debt free.  Keeping this journal can be time consuming but the information you get from it will be invaluable.  You can also do this in Quicken or a similar software if you have it available.  At the end of the 60-90 days, sit down and look at your budget.  See how much you spent on food, clothes, coffee, etc and you will undoubtedly find places and categories where you can scale back your spending.

The good news is, once you’ve settled all your debts, you’ve already done most of the work in repairing your credit.  Your debt to income ratio, which we discussed earlier, is now looking much better.  This alone will help your credit but there are other steps you can take to help rebuild your credit.

IMPORTANT NOTE: DO NOT use a credit repair clinic or service, they are mostly scams.

30 days after your final settlement, run credit reports for all 3 bureaus and make sure your information is correct.  Dispute any negative entries using the following steps:

1. Determine incorrect items
2. Send dispute letter to bureau in question
3. Keep records of letters
4. Follow up if you don’t receive a response in 30-45 days
5. Obtain resulting credit report from bureau (they will send it to you)
6. Repeat as necessary

This is really all there is to it.  You can also add some positive account history on your account by having someone with good credit co-sign with you on a loan or by signing up for a secured credit card which you should use for small monthly purchases and pay off in full at the end of each month.  Either of these will leave positive entries on your report.

IMPORTANT NOTE: DO NOT close down old accounts with positive history, this will only hurt your credit.

You can expect to regain a good credit standing in 1-2 years with these steps.

As we talked about briefly in a previous section, you will receive a Form 1099-C the following January for every debt that was forgiven over $600.  If you were insolvent (more debts than assets) at the time of the debt’s forgiveness, you will need to fill out an IRS Form 982.  You should also have some sort of documentation to show the IRS should they audit you.

In addition, if you have several debts that were forgiven, you need to be able to show you were insolvent at the time EACH debt was forgiven.  For example, let’s say you started out with $50,000 in debt and your net worth was -$20,000.  You settle a $15,000 account for $6,000.  This would increase your net worth by $9,000 to -$11,000.  You will need to do this for each debt, we recommend using a simple Excel spreadsheet.

If you have other outstanding tax issues, do not attempt to handle them yourself.  The IRS is not like dealing with a collection agency and you should seek the advice of an enrolled agent dealing with IRS issues.

Be sure to keep records of each settlement including the settlement offer letter and also bank statements showing the money coming out of your account or copies of checks.  You will want to also follow up on these settlements by checking your statements, they should begin to show a $0 balance or you should receive a $0 balance letter within 30 days.  Call and ask if you do not receive one.

There is a chance that a collection agency will continue to call even after you have settled an account.  If this happens, you will want to call the original creditor, not the collection agency and have them straighten out the situation.  They are the only ones who can resolve the issue.

Check your credit report again after all settlements have been made.  Make sure your account statuses have been updated correctly.  Write letters to the three bureaus if this is not the case.  Each bureau keeps separate records, so be sure to check all 3 (Experian, Transunion and Equifax).

Close your settlement account.  This is a matter of safety and closure.  After giving out your account number that many times, it is best to simply close down the account and avoid any unauthorized transactions.  Closing the account also helps to give closure to the process and lets you start a new chapter of your debt free life.

Take the monthly payment you were putting into the settlement account and begin placing it into a mutual fund or investment account.  You should also purchase term life insurance if you are the family’s breadwinner and make sure everyone in the family is covered by some type of health insurance.  High deductible health plans are a great value and cover against some kind of catastrophic illness.

Negotiating with third party debt collectors is very similar to negotiating with the original creditor.  You will continue to make offers in flat dollar amounts, not percentages.  If a creditor asks you if you have already made settlements, you can disclose this information but only if it is to your advantage.  A good example would be if you have a 35% settlement and wanted to get them to match the offer.  They may ask for a copy of the settlement offer letter, which it is ok to provide them.

Sometimes these 3rd parties will insist they can only settle if you provide lots of financial information like your employer, salary, savings, etc.  Do not comply with these demands unless you feel they are truly being honest.  These are often ploys to find out how much money they can get from you.

If you reach an agreement on a settlement and the representative asks for a “good faith payment” before they can issue the settlement letter, this is most likely a trick.  Always remember that no letter means no deal.  Tell them you are borrowing the funds from a friend or family member and that they will not release the funds to you until you have a settlement letter to show them.

A debt purchaser is a company that buys old debt accounts from banks.  Contrary to some internet rumors, debt purchasing is completely legal.  It is the same as selling any other asset like a car.  Your account will normally be sold in the 2nd year that no payment has been made, however, some banks choose to bypass Stage 2 and sell the debt right after charge off.  Other banks never sells accounts.  Either way, debt purchasers are very aggressive companies.

It can often be hard to tell if your account is with the original creditor or a debt purchaser because debt purchasers use the same collection agencies.  You should be able to tell by looking at the collection notice and see who is listed.

Once you receive the first notice that your debt has been purchased, you will want to send a debt validation letter.  Use certified mail with receipt when sending these.  This letter requires them to show proof of the debt and also the exact balance.  They are unable to continue the collection process until they have done so.  Due to the low margins of debt purchasing, they only purchase the account and not all the records associated with it.  The collection agency may never respond and your account may be switched to another agency.  Send them the same letter.  Once they provide proper documentation of the debts (which may never happen) work to settle the debt.

This round and round process can often last years.  At this point, the statute of limitations comes into play.  These laws vary from state to state but once a debt reaches a certain age, you are no longer responsible for it.

If you do have to settle with a debt purchaser, it will require some extreme patience.  Start your negotiations at 20-25% with a target settlement of 30-40%.

If you are sued by a debt purchaser, it is best to seek out a consumer right attorney.  These attorneys often work on contingency (no money upfront).

As we said earlier, a collection attorney is virtually the same as a collection agency, the office is just run by a lawyer.  Don’t panic if you get calls threatening legal action, they are almost always bluffs.

The first thing you will want to do is determine if the agency is really an attorney as some collectors will attempt to impersonate an attorney.  You can do this by returning their call and asking what state(s) they are licensed to practice law in and also for their state Bar number.

If it does turn out to be a real attorney, find out if they are located and/or licensed in your state.  If they are not, you shouldn’t have anything to worry about.

The worst case scenario is if they are located in your state and are working for the original creditor but this doesn’t mean you can’t settle.  Settlements in the 50-70% range are still common, you have just lost some leverage in this situation.  Call and negotiate with them just like a normal collection agency.  If you don’t have enough funds to settle at the time, you can request a debt validation letter which will buy you a month or so.  If you need more time, you can make small (around 2% of balance) strategic payments to buy more time.  This can stall legal action for a year or more.

If you do get sued, don’t panic!  You will receive a summons.  You can respond in writing or ignore it.  If you ignore it, the attorney will ask for a default judgment.  This process will generally take 2-9 months.  The attorney will then attempt to collect on the judgment one of three way:

1. By getting a lien placed on your home – this means when you sell your home a portion of the sale will go to the creditor to pay off your debt.
2. By placing a levy on your bank account – they will seize money from your bank account.
3. By garnishing your wages – an amount will be withheld from your paychecks to pay back debt.

You can avoid a judgment by simply answering the summons in writing.  This will stall the legal proceedings for several months, giving you time to negotiate a settlement.  Settlements are still possible all the way up to a judgment but you lose leverage with each step and the settlement percentages will be higher.  You may want to seek legal advice during a judgment situation.

Arbitration is another process used by some creditors.  This is much different from a lawsuit.  An arbitration award is not the same thing as a judgment.

The good news is that only about 1% of accounts ever have legal action taken on them.  If you have 10 accounts, you have about a 10% chance of legal action being taken, which is quite low.  We want you to be prepared for the worst though.

A collection agency is used by the original creditor on a commission basis to collect on your debt.  You still want to maintain some lines of communication during this stage but not as often as with the original creditor.  We recommend calling the collection agencies once per month.

The negotiations will proceed similarly to the original creditor.  You can continue to use the same scripts, starting low (20-25% of balance) and working your way up.  Again, collectors can be abusive and rude so familiarize yourself with the Fair Debt Collection Practices Act (FDCPA) and tell them you are recording the call if needed.

Since they are going to usually be abusive and rude, keep the calls as short as possible.  The longer the collector has you on the line, the better the chances you will make a payment and they know this.  Continue to sound like a broken record and repeat your story.  The collectors will try to annoy you and get under your skin, do not let it bother you, it isn’t personal, they are just trying to collect a payment.  Look at it like a cat and mouse game.  You’re the cat

You will receive a collection notice in the mail from the collection agency after your account has been transferred to them, often containing a settlement offer.  Time your monthly call about 5 business days before the end of the month.  Collectors have monthly quotas they need to meet and the best deals can be had at this time.  Use the same script as with the original creditor to try to reduce the settlement.  BE PATIENT!  Collectors are professionals and will fight tooth and nail to get as much money out of you as possible.  Make your offer, if they protest and say they can’t go under a high percentage, say you are sorry you couldn’t work something out and hang up the phone.  Wait for them to call back with a better offer.

Dealing with collectors is a much more “hardball” style approach than the original creditor.  They may attempt to call you at work if they can find the number.  If this happens, say the following:

“I am not allowed to receive personal phone calls at work.  Do not call me here again or I will file a formal complaint with the Attorney General and Federal Trade Commission.” Hang up.

If they call back, do follow through and document the call and send a letter to both your state’s Attorney General as well as the Federal Trade Commission.

As we discussed in the section outline, third party collectors are an entirely different breed from original creditors.  They are paid professionals that will use intimidation and psychological pressure to get you to make a payment.  Fear is another tool in their arsenal and they will often times try to scare you by giving you the impression you will be sued.  Direct legal threats are against the Fair Debt Collection Practices Act (FDCPA) so they will say things like:

“You are running out of time.  If we don’t receive a payment by 5pm today, we will notify our client of your refusal to pay and your file will be flagged for further action.”

This certainly sounds scary but in reality it’s just a bunch of vague words thrown together.  Don’t even bother responding to threats like these.

Another common tactic they will employ is to tell you that you don’t qualify for settlement.  This is just a trick as there is no formal qualification process.  Similarly, they will sometimes encourage you to file bankruptcy noting that the client has bankruptcy insurance.  This is also  untrue, bankruptcy insurance does not exist.

Most creditors will be rude and aggressive but every once in a while you will find one that is extremely nice.  It’s a lot like the good cop / bad cop scenario you see in almost every action movie or TV show.  These collectors will decide to treat you nicely in hopes of getting you to make a payment.  They will act like they are looking out for your best interests and tell you the negatives of settlement, then attempt to put you on a payment plan.  Please realize that these are all just acts.  All they care about is getting commission off your account!

With the legislation out there to protect consumers, most collectors follow the rules and don’t push things over the edge.  However, there are some bad apples out there.  If you ever encounter a collector that is super aggressive, rude or degrading, inform them that you are recording the call (doesn’t matter if you really are).  Say something like:

“Before you go any further, I just want to let you know that I am recording this conversation.  Please continue…”

9 times out of 10, they will hang up immediately.  This is a powerful tactic so please use it only for the worst collectors and not for every call you receive.

Always have a settlement letter in hand before making payment.  See sample settlement offer letter below.  Creditors have been known to verbally offer a settlement and then apply that payment to the full balance with the rest still owed.

Payments will almost always be completed using check by phone.  The rep will ask you for your bank routing number and account number which can be found at the bottom of your checks.  Sometimes you will have the option to pay by cashier’s check.  If you choose to do so, make sure to send the check via UPS or Fedex and get tracking and signature on delivery.

Sample Settlement Letter