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What's worse for my credit? Bankruptcy or debt settlement?

Even normally responsible Washington consumers can experience a run of financial bad luck that has them contemplating their options as debtors.

Doing nothing only makes a bad situation worse. Basically, two options are available -- declaring bankruptcy or debt settlement. But which will do less damage to a debtor's credit score?

It's important to first have a clear understanding about the process and ramifications of both options. Debt settlement is an agreement between a debtor and creditor for the debtor to pay one lump sum payment of series of installments for a usually greatly reduced sum that the original debt.

A caveat of debt settlement is that the unpaid portion of debt still is attached to you as taxable income by the federal government. For instance, those settling a $20,000 credit card debt for $8,000 still have a tax liability for the additional $12,000 come April 15.

On the other hand, bankruptcy wipes the slate clean in most cases, dependent upon the type of consumer bankruptcy that is filed. Both you and your creditors realize these debts are going to remain unpaid, and with the approval of the court, your debts are discharged.

In both instances, your credit takes a severe ding. By the time you have reached the point where either options are contemplated, your credit has tarnished anyway. Settled debts remain on a credit report for seven years, but do show a debtor's past willingness to at least accept partial responsibility for his or her financial foul-ups.

A bankruptcy can linger on credit reports for up to a decade, yet often it is the better option when a repayment plan is likely to stretch already thin resources to the breaking point. Some who settle debts still wind up in bankruptcy court if they cannot meet their agreed upon settlements. Essentially, the money they paid out before defaulting becomes wasted resources that could be better used rebuilding from the bottom up.

When faced with an untenable financial mess, consulting with a Washington bankruptcy law professional is a wise choice.

Source: NerdWallet, "Bankruptcy or Debt Settlement: Which is Worse for My Credit Score?" Anisha Sekar, Dec. 03, 2014

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