Debt Settlement Laws

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 What is a Debt Settlement?

Debt settlement refers to an effort between a lender and a borrower to arrange a settlement of outstanding debt owed when the borrower has missed payments. In most cases, the parties may formulate a debt settlement agreement that outlines how settlement of a debt is to occur.

For instance, the agreement may create an alternative payment plan for the borrower, in consideration of the borrower’s changed income or other factors. It may also spell out whether the parties will be able to file a lawsuit in the future, or if the lender can levy on the borrower’s property in the event the borrower defaults on loan payments.

How Is a Debt Settlement Accomplished?

Before a debt settlement agreement can be reached, the debtor and creditor need to work out their differences. This can be done through the following procedures:

  • Private negotiation between the debtor and creditor or their representatives, e.g. attorneys;
  • A court-ordered mediation;
  • A formal lawsuit.

If the agreement is reached because a lawsuit is pending, the parties may then choose to submit their final agreement to the court in which the lawsuit is pending to have it approved as the final resolution of the case. This gives the settlement agreement the formal authority of the court and can help the parties enforce the terms of the settlement in the future.

What Are Some Legal Issues in Debt Settlements?

Perhaps the main issue in most debt cancellation disputes is that of breach of contract. Lending is something that typically involves a contract. The need for debt settlement is often due to a breach of the lending contract by the debtor.

A common example of this is where the borrower violates terms of a mortgage loan agreement and fails to keep up with mortgage payments. Or, a person may buy a car through borrowing and default on the car loan payments. The default then constitutes a breach of the lending contract and the law of breach of contract applies.

Another common legal issue involved with debt settlements is that of third party rights. A third party may wish to assume the loan that the borrower has. This can be an issue with mortgage loans. This may require another contract that spells out the terms of loan assumption. Assumption of a mortgage loan may, however, violate the original lending agreement. Often the terms of a mortgage loan do not allow a third party to assume a mortgage loan. This is a type of debt settlement that might require the help of a lawyer.

What Are Some Outcomes of Debt Settlement Disputes?

Debt settlement disputes typically result in an award of damages to compensate the lender for its losses. The lender is interested in recovering the amount it loaned to the borrower plus interest and expenses., e.g. attorney’s fees

However, in most cases, the borrower may be insolvent, or unable to pay the loan due to lack of funds; that is why the dispute arises in the first place. In these cases, the court may issue a lien allowing the lender to obtain title to the borrower’s property. This may mean that the lender takes back the property that the borrower purchased with the borrowed money. Or, in some cases, a lender can place a lien on other property, which was not purchased with the proceeds of the loan

This is possible, because, in the case of mortgage loans and car loans for example, the loan is secured by the house or the car that the borrower purchased with the loan funds. So, if the borrower stops paying the loan as promised in the loan agreement, the lender has the legal right to take possession of the house or the car and sell it. The lender then applies the proceeds from the sale to pay off the loan. The house or the car is “security” for the loan.

It can happen that the proceeds from the sale of the security is not enough to fully pay off the loan in full. In this case, the borrower may still be liable for the remaining loan balance that has not been paid by sale of the security. This unpaid balance is known as a “deficiency.”

This is the common outcome for mortgage loans and car loans. In the case of mortgage loans, the lending institution forecloses on the home and takes possession of it, if the homeowner fails to make their mortgage payments. In the case of a car loan, the dealer who sold the car repossesses the car, resells it and pays off the loan in that way.

Other kinds of personal property can be subject to repossession also, not just houses and cars. For example, big ticket items such as large-screen televisions, expensive furniture and jewelry might be subject to repossession.

If this is the case, the lender’s right to repossess items of personal property, such as cars or jewelry, is spelled out in the lending contract. A borrower should read their lending agreements to see if it gives the lender a right to repossess property that is security for the loan.

Different states have different laws, but in many states if the property that secures a loan is going to be sold to satisfy the borrower’s debt, the lender must inform the borrower of the date, time, and location of the sale. The notice must also tell the borrower whether the borrower is going to be liable for any deficiency. The notice should also give the borrower a phone number they can call to learn how much they still owe.

The borrower has a right to attend the sale and even to bid on the property. There are two kinds of sales, a public sale, which is open to any member of the public and a private sale, to which the lender invites only certain people.

Generally, a lender invites people who might be interested in the sale, such as used car dealers who typically buy used cars that have been repossessed at auctions. If the notice does not provide the date or location of a sale of repossessed or foreclosed property, the borrower may contact the lender and obtain this information.

A borrower also may have certain responsibilities regarding property that is security for a loan. The lending agreement may spell out responsibilities that the borrower has to preserve the property.

It is possible that allowing the lender to repossess property that is security for a loan, or even agreeing to allow repossession in exchange for the lender’s acceptance of it as full satisfaction of the loan, would be in the best interest of the borrower. The borrower may want to negotiate this with the lender. This is a task with which a lawyer may be able to offer valuable assistance.

Whether a lender can sue a borrower if, after foreclosure or repossession, the loan is still not fully repaid, is a matter of state law. Of course, state law varies. Some states allow lenders to pursue a borrower for any deficiency that remains after foreclosure or repossession. Others do not allow it.

Another common outcome, in the event the borrower is truly insolvent, is for the borrower to file for bankruptcy. This can be a helpful move for some borrowers. For one thing, filing for bankruptcy halts all collection efforts by a person’s creditors. This can give the borrower the opportunity to possibly save certain assets, e.g. a primary residence or their only car, while avoiding other debt. Often, bankruptcy offers the best solution for a person whose debts have become unmanageable.

Thus, debt settlement disputes can result in a major rearrangement of the borrower’s finances and budget. Negotiation of an outcome that serves the best interests of lender and borrower typically requires the help of a lawyer to review the various options and prepare any documentation involved, e.g. debt settlement agreements or bankruptcy filings

Do I Need a Lawyer for Help With Debt Settlement Laws?

Each state has different laws relating to lending, borrowing and debt collection. Some states may enforce stricter measures than others. If you need help with a debt settlement issue, it is in your best interests to consult an experienced credit lawyer for help.

A qualified lawyer in your area may know about options for settlement of which you may not be aware. Your lawyer can help resolve your dispute and would be able to represent you in court if a lawsuit or bankruptcy filing should become necessary.

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